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Abstract: In recent years, the cost to merchants of accepting credit cards has risen dramatically without a corresponding increase in the benefits. This trend has sparked a wide-ranging struggle between merchants and banks, as merchants have begun to seek methods for limiting payment costs. The conflict is playing itself out in business practices, banking regulation, IPOs, corporate governance, corporate restructuring, bank mergers, and the largest private antitrust litigation in U.S. history. This article reviews the factors behind the struggle between merchants and banks and the strategies adopted by each, and uses the framework of the merchant-bank struggle to reevaluate the relationship between banking and commerce. The article argues that the extraordinary transactional and litigation energy being spent in this fight is likely for naught. Ultimately, the growth of national bank brands, technological developments, and innovative business models are likely to independently result in a radical reshaping of the payments world that will ease merchant-bank tensions, but also blur the distinction between banking and commerce.
credit card, debit card, payment systems, antitrust, interchange, merchant discount, MasterCard, Visa, IPO, PayPal, merchant, bank, network, no-surcharge rule, honor all cards, Wal-Mart, Industrial Loan Corporations, ILC, PLCC, Private Label, Co-Brand, turn rate, contactless
Abstract: In recent years, the cost to merchants of accepting credit cards has risen without any corresponding new benefits. This trend has sparked a wide-ranging struggle between merchants and banks, as merchants have begun to seek greater control over payment systems. The conflict is playing itself out in business practices, banking regulation, IPOs, corporate governance, corporate restructuring, bank mergers, and the largest private antitrust litigation in U.S. history. This article reviews the factors behind the struggle between merchants and banks and the strategies adopted by each, and uses the framework of the merchant-bank struggle to reevaluate the relationship between banking and commerce. The article argues that the extraordinary transactional and litigation energy being spent in this fight is likely for naught. Ultimately, the growth of national bank brands, technological developments, and innovative business models will independently result in a radical reshaping of the payments world that could ease merchant-bank tensions.
credit card, debit card, payment systems, antitrust, MasterCard, Visa, IPO, PayPal, merchant, bank, network, no-surcharge rule, honor all cards, Wal-Mart, Industrial Loan Corporations, ILC, PLCC, Private Label, Co-Brand
Abstract: Merchants and banks are currently engaged in a wide-ranging struggle for control over payment systems. The conflict is playing itself out in business practices, in banking regulation, in corporate governance, in corporate restructuring, in securities offerings, and in the biggest antitrust litigation since AT&T. Yet, it is possible that the extraordinary energy being spent in this fight is for naught, as the growth of national bank brands, technological developments, and innovative business models are likely to result in a radical reshaping of the payments world. This article reviews the factors behind the struggle between merchants and banks and the strategies adopted by each, and questions what impact changes in the payment card industry's structure and the emergence of new payments technologies and business models will have on the merchant-bank contest.
interchange, credit card, debit card, payment systems, antitrust, Visa, MasterCard, IPO, PayPal, merchant, bank, network, no-surcharge rule, honor all cards, Wal-Mart, Industrial Loan Corporations, ILC, PLCC, Private Label, Co-Brand
Abstract: Who pays for credit card rewards? This Article demonstrates empirically that credit card rewards programs are funded in part by a highly regressive, sub rosa subsidization of affluent credit consumers by poor cash consumers. In its worst form, food stamp recipients are subsidizing frequent flier miles. The subsidization is created by a set of credit card network rules called "merchant restraints" that combines with a cognitive bias known as the framing effect to limit merchants' ability to price payments systems according to cost. The Article also shows how the subsidization of credit card use increases the use of credit cards for transacting. A set of cognitive biases amplifies increased transacting usage into an increase in credit card debt. Credit card merchant restraints thus ultimately contribute to credit defaults, reduced consumer savings and purchasing power, inflation, and consumer bankruptcy filings. There are profound policy implications to the social externalities caused by credit card merchant restraints, including whether private control of essential services like payment systems is appropriate. In light of the negative social externalities of credit card merchant restraints, the Article proposes legislative intervention to ban merchant restraint rules.
credit cards, surcharge, interchange, discounts, no-surcharge rule, honor all cards, merchant restraints, debit cards, unbanked, subsidization,merchant discount, cognitive bias, framing effect, underestimation bias, spending restraint bias, inflation, bankruptcy, savings, payment
Abstract: Who pays for credit card rewards? This Article demonstrates that credit card rewards programs are funded in part by a highly regressive, sub rosa subsidization of affluent credit consumers by poor cash consumers. In its worst form, food stamp recipients are subsidizing frequent flier miles. The subsidization is created by a set of credit card network rules called "merchant restraints" that combines with a cognitive bias known as the framing effect to limit merchants' ability to price payments systems according to cost. The Article also shows how the subsidization of credit card use increases the use of credit cards for transacting. A set of cognitive biases amplifies increased transacting usage into an increase in credit card debt. Credit card merchant restraints thus ultimately contribute to credit defaults, reduced consumer savings and purchasing power, inflation, and consumer bankruptcy filings. There are profound policy implications to the social externalities caused by credit card merchant restraints, including whether private control of essential services like payment systems is appropriate. In light of the negative social externalities of credit card merchant restraints, the Article proposes regulatory or legislative intervention to ban merchant restraint rules.
credit cards, surcharges, discounts, no-surcharge rule, honor all cards, merchant restraints, debit cards, unbanked, subsidization, interchange, merchant discount, cognitive bias, framing effect, underestimation bias, spending restraint bias, inflation, bankruptcy
Abstract: Whether a customer pays with cash, check, PIN- or signature-based debit card, or credit card, the transactions costs imposed on the merchant differ widely, but credit card networks' no-surcharge rules prevent the merchant from passing those different costs along to the customer. These no-surcharge rules are anti-competitive and cause an inefficient over-consumption of credit at the expense of other payment systems. Moreover, no-surcharge rules result in substantial negative social and economic welfare effects, including inflation, decreased consumer purchasing power because of greater debt service, lower savings rates, more consumer bankruptcies, inequitable subsidization of credit consumers by non-credit consumers, and unnecessary subsidization of the entire credit card industry outside of the political process. This article is the first piece in the legal literature to examine no-surcharge rules in the age of expanding electronic payment systems and rising consumer bankruptcies and to connect no-surcharge rules to social welfare issues. No-surcharge rules are coming under scrutiny in the US and abroad. The Federal Reserve Board has just embarked on its first-ever comprehensive review of Regulation Z, which implements the Truth-in-Lending Act and cash-credit pricing differentials. Recent anti-trust examination of credit card networks in the US and Europe may signal that the Board is willing to inspect closely many credit card practices. Australia's marked drop in demand for credit cards after banning surcharge restrictions in 2003 may also play into the Board's stated concern about the rapidly increasing growth of consumer debt in the US. Even if the Federal Reserve Board fails to act, the growth of the major credit cards networks' products at the expense of other payment systems networks may lead to private anti-trust actions directed at no-surcharge rules. The potential legal challenges would be the Superbowl of anti-trust litigation, dwarfing the record $3 billion anti-trust settlement Visa and MasterCard reached with Wal-Mart in 2003 over their restrictions on debit-card pricing. No-surcharge rules' role in payment system economics will undoubtedly gain increased attention over the next few years, as the abolition of no-surcharge rules would dramatically change Americans' payment and debt behavior.
Credit cards, surcharges, no-surcharge rule, no-discrimination rule, cash discounts, truth-in-lending act, cross-subsidization, inflation, payment systems, debit cards, antitrust, regulation z, reg z, frequent flyer
Abstract: Merchants pay banks a fee on every credit card transaction. These credit card transactions cost American merchants an average of six times the total cost of cash transactions. The variation among credit cards is also large, with some cards, such as rewards cards, costing merchants twice as much as others. The largest component of the fee merchants pay goes to finance rewards programs, which in turn generate more credit card transactions. Although merchants finance the rewards programs, they derive no benefit from them. Rather than generating additional sales, rewards programs merely induce consumers to shift transactions from less expensive payment systems to more expensive rewards credit cards. Why, then, do all consumers pay the same price for purchases, regardless of the means of payment? The answer lies in a set of credit card network rules known as merchant restraints. Merchant restraints prohibit merchants from accepting certain credit cards selectively and from pricing according to cost of payment. Merchant restraints thus prevent merchants from signaling to consumers the costs of different payment methods. Accordingly, consumers never internalize the costs of their choice of payment system. Merchant restraints thus encourage more credit card transactions at higher price than would occur in a perfectly efficient market. The restraints also permit card issuers to externalize the costs of rewards programs to merchants and, ultimately, to consumers who do not use reward cards. Merchant restraints distort competition within the credit card industry and among payment systems in general. Merchant restraints' economic justifications are unfounded, and they should be banned as antitrust violations.
credit cards, surcharges, discounts, no-surcharge rule, honor all cards, merchant restraints, debit cards, ATMs, interchange, merchant discount, cognitive bias, framing effect, price-fixing, MFN, MCC, monopolization, antitrust, tying, most favored nation, network effect, network externality
Abstract: For over a century, bankruptcy has been the primary legal mechanism for resolving consumer financial distress. In the current foreclosure crisis, however, the bankruptcy system has been ineffective because of the special protection it gives most home mortgages. Debtors may modify the terms of all debts in bankruptcy except those secured by mortgages on their principal residences. A bankrupt debtor who wishes to keep her house must pay the mortgage according to its original terms down to the last penny. As a result, many homeowners who are unable to meet their mortgage payments are losing their homes in foreclosure, thereby creating significant economic and social deadweight costs and further depressing the housing market.
This Article empirically tests the economic assumption underlying the policy against bankruptcy modification of home-mortgage debt—that protecting lenders from losses in bankruptcy encourages them to lend more and at lower rates, and thus encourages homeownership. The data show that the assumption is mistaken; permitting modification would have little or no impact on mortgage credit cost or availability. Because lenders face smaller losses from bankruptcy modification than from foreclosure, the market is unlikely to price against bankruptcy modification.
In light of market neutrality, the Article argues that permitting modification of home mortgages in bankruptcy presents the best solution to the foreclosure crisis. Unlike any other proposed response, bankruptcy modification offers immediate relief, solves the market problems created by securitization, addresses both problems of payment-reset shock and negative equity, screens out speculators, spreads burdens between borrowers and lenders, and avoids the costs and moral hazard of a government bailout. As the foreclosure crisis deepens, bankruptcy modification presents the best and least invasive method of stabilizing the housing market.
mortgage, bankruptcy, modification, cramdown, lienstripping, lien-stripping, Nobelman, GSE, chapter 13, 1322(b)(2)
Abstract: This paper summarizes the initial findings of our study on the effect of bankruptcy strip-down and modification on principal home residence mortgage rates, loan origination volumes, loan-to-value ratios, and bankruptcy filing rates. We tested the impact of mortgage strip-down using both current and historic mortgage data. Current mortgage rates, private mortgage insurance premiums, and Fannie Mae/Freddie Mac delivery fees indicate that mortgage markets are indifferent to bankruptcy modification risk, including strip-down. Our findings from the current mortgage data are consistent with our findings from analysis of historical data. Using mortgage data from the 1980s and 1990s, we tested whether the impact of changes in federal judicial rulings on residential mortgage strip-down - the bifurcation of an undersecured mortgage lender's claim into a secured claim for the value of the collateral property and a general unsecured claim for the deficiency. Historically, our results suggest, permitting unlimited strip-down had no effect on origination rates or the number of bankruptcy filings. It appears to have increased median mortgage interest rates slightly, but our findings are statistically distinguishable from zero effect in only some specifications. We find, however, some evidence that allowing strip-down in an unlimited regime historically had a larger impact on interest rates in states where Chapter 13 filing is more common. We also find that permitting strip-down historically resulted in a slight decrease in loan-to-value ratios and that this decrease was more pronounced for higher cost loans, incurred by presumably riskier borrowers. We explain the lack of market sensitivity to strip-down risk by reference to two sets of consumer bankruptcy data, one from 2001 and one from 2007, both of which suggests that lenders' losses in strip-down would be extremely limited both in scope and magnitude and often total less than those they would incur in foreclosure. Taken as a whole our analysis of the current and historical data suggests that permitting bankruptcy modification of mortgages would have no or little impact on mortgage markets.
Abstract: This Critique takes issue with four of the main assertions of the American Bankers Association's Study on Credit Card Regulation. First, this Critique addresses the ABA Study's claim that credit card pricing is risk-based and demonstrates that only certain elements of card pricing are marginally risk-based; overall, credit card pricing is not risk-based, and risk-based pricing does not explain card issuers' abusive and manipulative billing practices such as unilateral term changes, two-cycle billing, universal cross-default, and retroactive application of higher interest rates. Instead, these practices are merely rent extraction devices that allow card issuers to take advantage of cardholder lock-in. Second, the putative benefits of risk-based pricing¿lower costs of credit to creditworthy consumers, and greater availability of credit to subprime consumers¿are either illusory or attributable to other causes. To the extent that credit card interest rates have declined over the past two decades, it is attributable to issuers' decreased cost of funds, and overall, credit card pricing may not have decreased for any consumers. Greater subprime access to credit cards is attributable to issuers' ability to pass off risk and increase lending capacity through securitization, and increased credit card access is hardly a boon absent ability to repay debts. Third, this Critique shows that contrary to the ABA Study's claims, credit card debt now supplements, rather than replaces other forms of consumer debt. And fourth, this Critique exposes the flaws in the ABA Study's conclusory assertion that there is no basis for credit card price structure regulation. Instead, seven of the eight standard independent reasons for regulation apply squarely to credit cards, making regulatory intervention in the credit card market a question of how, not whether.
credit cards, risk-based pricing, subprime, creditworthy, revolving debt, merit goods, return on assets, risk-based repricing
Abstract: Creditors have long understood that any claims they submit for repayment in a bankruptcy might be valid, but subject to subordination in the order of payment of the bankruptcy estate's limited funds if the creditor behaved inequitably as the debtor failed. Enron's on-going bankruptcy raised many instances of inequitable conduct, but a recent opinion by the bankruptcy court expands the practice of equitable subordination far beyond its traditional reach. According to the court, buyers of bankruptcy claims are now subject to subordination, not just for their own conduct, but also for conduct of previous owners of the claims, regardless of whether the conduct was connected to the claims. In a world of active bankruptcy claims trading, Enron raises powerful policy questions that may affect both the doctrinal development of bankruptcy law and the survival of a market that has provided liquidity for creditors with claims against bankrupt debtors. This article argues that Enron was based on questionable legal authority and that it does not present the best policy solution for redressing the problems of inequitable behavior by creditors.
Enron, equitable subordination, bankruptcy claims, good faith, creditor, transferee, assignment, counterparty risk, liquidity, distressed debt, vulture funds, loan syndication, credit default swap, bankruptcy, remedy, nemo dat, Refco, short and distort, market manipulation
Abstract: Creditors have long understood that any claims they submit for repayment in a bankruptcy might be valid, but subject to subordination in the order of payment of the bankruptcy estate's limited funds if the creditor behaved inequitably as the debtor failed. A groundbreaking opinion in Enron's on-going bankruptcy has expanded the practice of equitable subordination far beyond its traditional reach. According to the court, buyers of bankruptcy claims are now subject to subordination, not just for their own conduct, but also for conduct of previous owners of the claims, regardless of whether the conduct related to the claims. In a world of active bankruptcy claims trading, Enron raises powerful policy questions about the legal rules governing property transfers that affect the doctrinal development of bankruptcy law and the survival of a secondary market that provides important liquidity to other capital markets. This article shows how Enron was erroneous from both doctrinal and policy perspectives and examines the problems Enron has created for several distinct markets. Enron is a reminder of the continuing value of negotiability in commercial contexts, for if the claims involved had been negotiable, they could not have been subordinated. Thus, this article considers what factors have traditionally determined when the law adopts a negotiability regime for property transfers and whether these factors make sense in today's financial markets. The article argues that in the bankruptcy claims context, the liquidity benefits of negotiability outweigh its costs. Accordingly, the article proposes a federal law of negotiability for bankruptcy claims to protect the liquidity of this vital market.
Bankruptcy, nemo dat, negotiability, bankruptcy claims, Enron, equitable subordination, equity, liquidity, credit default swap, loan participation, Refco, market manipulation, justified reliance, UCC Article 3, UCC Article 9, security interest, reification, merger doctrine
Abstract: Credit card transactions cost American merchants six times as much as cash transactions. American merchants paid nearly $40 billion to accept credit cards last year. Why, then, do consumers pay the same price for purchases, regardless of their means of payment? The answer lies in a set of credit card network rules known as merchant restraints. Merchant restraints forbid merchants from surcharging for credit and discounting for non-cash payments, while the framing effect, a well-documented cognitive bias, makes discounting for cash ineffective. Merchant restraints thus prevent merchants from pricing according to consumers' payment method and from signaling to consumers the costs of their choice of payment method. Accordingly, consumers never internalize the costs of their choice of payment system. Credit card merchant restraints lead to an over-consumption of credit, which has profound anticompetitive and social effects. This article examines how merchant restraints have distorted competition within the credit card industry and among payment systems in general. It also identifies several problematic social impacts of merchant restraints, including a regressive, sub rosa subsidization of affluent credit consumers by poor cash consumers and increased use of credit leading to increased consumer bankruptcy filings, inflation, and decreased consumer purchasing power. The article contends that the economic justifications for merchant restraints are unfounded, that merchant restraints are better understood in the context of their historical development as a solution to a legal problem that no longer exists, and that merchant restraints are clear antitrust violations. Thus, the article proposes regulatory or judicial intervention to ban merchant restraint rules.
credit cards, surcharges, discounts, no-surcharge rule, honor all cards, merchant restraints, debit cards, unbanked, subsidization, interchange, merchant discount, cognitive bias, framing effect, underestimation bias, spending restraint bias
Abstract: This article describes the causes of the boom and bust in the U.S. housing market, which brought down not just the U.S. financial system but the global economy. How did this vicious cycle begin? How did home prices appreciate so far and so fast? Why did rational investors not recognize and stop mispricing and investing in these loans on Wall Street? We offer a supply-side explanation of the mortgage crisis. At the root of the crisis was a new class of specialized mortgage lenders and securitizers unrestricted by regulations governing traditional lending and securitization. Eager to take profits in an originate-to-distribute lending model, aggressive lenders piled in by offering loans with low upfront costs, attracting first-time home buyers previously unable to afford houses, repeat buyers buying pricier homes and second homes, as well as speculators. These practices drove prices particularly high in Arizona, California, Florida, and Nevada, which had significant land-use regulations and environmental controls that reduced supply elasticity, leading increases in demand to trigger mostly higher prices instead of a greater supply of housing.
securitization, mortgages, subprime, bubble, housing finance, MBS, mortgage-backed securities, credit default swaps, mispricing
Abstract: Modification-proof contracts boost commitment and can help overcome information problems. But when such rigid contracts are ubiquitous, they can function as social suicide pacts, compelling enforcement despite significant externalities. At the heart of the current financial crisis is a contract designed to be hyper-rigid: the pooling and servicing agreement (PSA), which governs residential mortgage securitization. The PSA combines formal, structural and functional barriers to its own modification with restrictions on the modification of underlying mortgage loans. Such layered rigidities fuel foreclosures, with spillover effects for homeowners, communities, financial institutions, financial markets, and the macroeconomy. This Article situates PSAs in the context of theoretical and policy debates about contract rigidity, bond contract modification, and contractual bankruptcy. We propose a typology of contract rigidities, ranging from outright prohibition on amendment (formal rigidity) to extreme collective action problems (functional rigidity). We then draw on New Deal jurisprudence for strategies to overcome each kind of rigidity. These strategies include narrowly tailored legislation that renders the problem terms unenforceable on public policy grounds, administrative restructuring mandates, and special bankruptcy regimes. The New Deal experience highlights the spillover effects of widespread contract practices, the limits of voluntary modification, and the utility of targeted government mandates to rewrite problematic terms. However, it also reveals the limits of such mandates. When different kinds of rigidity combine in a complex web of contracts, a comprehensive mechanism like bankruptcy may be necessary to break the logjam. Rewriting PSAs will not resolve today’s financial crisis. Yet voluntary foreclosure prevention initiatives are unlikely to succeed for as long as contract rigidities persist. The experience with PSAs also holds an important lesson for the future: even where contract rigidity makes perfect sense for the parties, pervasive rigidities can have catastrophic social consequences. A toolkit to overcome different forms of rigidity is essential to financial stability.
securitization, mortgages, foreclosure, servicing, PSA, pooling and servicing agreement, gold clauses, New Deal, public utility holding company act, Frazier-Lemke Act, contract, collective action, workout, modification, externalities, MBS, RMBS, bankruptcy
Abstract: Bankruptcy is a statutory system, yet it is replete with practices for which there is no direct authorization in the Bankruptcy Code. This article argues that the authorization for judicial creation of bankruptcy law beyond the provisions of the Code has been misidentified as the equity powers of bankruptcy courts. This misidentification has led courts to place inappropriate statutory and historical limitations on non-Code practices because of discomfort with unguided equitable discretion. Both the statutory and historic limitations are problematic. The statutory authorization for the bankruptcy courts' equitable powers appears to have been repealed by what one judge has called one of the clumsiest acts of Congress. The statutory section to which courts now look, 11 U.S.C. Section 105(a), is inapplicable, and its use as a framework for evaluating non-Code practices has led to questionable decisions. Likewise, the historic limitations of the pre-Code practices doctrine are unsatisfactory and have produced contradictory Supreme Court decisions. Instead, this article argues that non-Code practices are better thought of as a federal common law of bankruptcy. Federal common law is judge-made law that depends on precedent and judicially-devised tests rather than unpredictable discretion or rigid application of statute. Viewing non-Code practices as federal common law would lead to more predictable and consistent decisions without sacrificing the judicial flexibility necessary to facilitate corporatere organizations.
Bankruptcy, equity, court of equity, equitable powers, federal common law, pre-Code practices, non-debtor releases, Bildisco, Ahlers, Grupo Mexicano, Capital Factors, K-Mart, Butner, critical vendors, first day orders, substantive consolidation, equitable subordination, chanelling injunction
Abstract: Bankruptcy is a statutory system, yet it is replete with practices for which there is no direct authorization in the Bankruptcy Code. This article argues that the authorization for judicial creation of bankruptcy law beyond the provisions of the Code has been misidentified as the equity powers of bankruptcy courts. This misidentification has led courts to place inappropriate statutory and historical limitations on non-Code practices because of discomfort with unguided equitable discretion. Both the statutory and historic limitations are problematic. The statutory authorization for the bankruptcy courts' equitable powers appears to have been repealed by what one judge has called one of the clumsiest acts of Congress. The statutory section to which courts now look, 11 U.S.C. § 105(a), is inapplicable, and its use as a framework for evaluating non-Code practices has led to questionable decisions. Likewise, the historic limitations of the pre-Code practices doctrine are unsatisfactory and have produced contradictory Supreme Court decisions. Instead, this article argues that non-Code practices are better thought of as a federal common law of bankruptcy. Federal common law is judge-made law that depends on precedent and judicially-devised tests rather than unpredictable discretion or rigid application of statute. Viewing non-Code practices as federal common law would lead to more predictable and consistent decisions without sacrificing the judicial flexibility necessary to facilitate corporate reorganizations.
Abstract: Courts have repeatedly stated that equitable subordination is a compensatory remedy. This view is demonstrably mistaken; if equitable subordination is compensatory, only injured creditors, and not trustees or debtors in possession, would have Constitutional standing to bring equitable subordination actions. Rather, equitable subordination is quasi-punitive remedy akin to unjust enrichment, which looks to the actions of the inequitable party, not the harm caused. The proper compensatory remedy for injured creditors is direct tort suits against the inequitable creditor. Equitable subordination should be granted only when an injured creditor cannot bring a direct action against the inequitable creditor or when a creditor has engaged in inequitable behavior in the bankruptcy process itself. A quasi-punitive view of equitable subordination could resolve the problem of Constitutional standing for trustees and DIPs. More significantly, if equitable subordination is a punitive remedy, it changes litigation leverage and implies different limits on the action, particularly in regard to the liability of transferees of the inequitable party.
equitable subordination, remedy, standing, priority, bankruptcy, creditor, debtor, punitive, compensatory, equity, inequitable, trustee, debtor in possession, Enron, public adjudication, private adjudication
Abstract: The Obama administration has proposed restructuring financial services regulation by transferring all consumer protection functions from existing agencies to a new Consumer Financial Protection Agency (CFPA). The goal of the CFPA legislation is to address the flaws in the regulatory architecture that have inhibited effective responses to the substantive problems, rather than mandate specific new substantive consumer protection laws. The current consumer financial protection is based on disclosure regime and is policed through supervisory feedback, enforcement actions, and occasionally prohibitions on terms, products, and practices that are deemed inherently unfair and deceptive. On the federal level, consumer protection in financial services is divided among a number of agencies: the OCC, OTS, NCUA, Federal Reserve Board, FDIC, FHFA, HUD, VA, FTC and DOJ. Some of these agencies have the ability to promulgate regulations, some also exercise supervisory authority over financial institutions, and some may only enforce existing regulations. Sometimes authority is over a class of institutions, and sometimes it is over a particular type of product. There are four main structural criticisms of the current regulatory structure: that consumer protection is a so-called 'orphan' mission; that consumer protection conflicts with, and is subordinated to, safety-and-soundness concerns; that no agency has developed an expertise in consumer protection in financial services, and; that regulatory arbitrage of the current system fuels a regulatory race-to-the-bottom. Consolidation of consumer financial services protection authority could: place all financial services companies, regardless of the form of their charter, under a single regulator, thus ending its orphan status; separate consumer protection from safety-and-soundness regulation, thus ending subordination; encourage the development of a deep bench of regulatory expertise and knowledge, and; end the opportunity for regulatory arbitrage and any potential race to the bottom. There are several potential concerns about a CFPA: conflicts with prudential regulators; ambiguity with respect to Consumer Reinvestment Act authority, and; potential overregulation resulting in higher costs of financial products, less product availability, and discouragement of innovation. Still, there are compelling reasons to believe that the present regulatory architecture cannot produce the optimal consumer protection regime and will continue to fail in its task, resulting in unfair treatment of consumers and a potentially significant source of systemic risk. To this extent, consideration of a CFPA should strive to distinguish between the basic thrust of the legislation - a consolidation of the regulatory authority of - and the proposed new substantive powers granted to the agency.
Consumer Financial Protection Agency, consumer protection, plain vanilla, mortgages, credit cards, regulatory arbitrage, safety-and-soundness
Abstract: Consumer protection in financial services has failed. A crisis is now playing itself out in the mortgage, credit card, auto loan, title loan, refund anticipation loan, and payday loan markets. Consumer protection was a traditional element states' regulatory power until federal preemption ousted states from almost all direct regulation of federally-chartered banks without substituting equivalent protections and enforcement. This Article argues that one avenue may remain to permit states to engage in consumer protection regulation of federally-chartered banks. Recent changes in financial markets have placed the majority of consumer debt in the hands of secondary market entities, such as securitization trusts and debt collectors, which are not protected by federal preemption. States' ability to directly regulate the secondary consumer debt market also gives them the ability to indirectly regulate the primary market, even when direct regulation would be preempted. States can impose targeted regulatory costs on the secondary market tied to the presence or absence of particular terms in consumer debts, regardless of what type of institution initiated the debt. By tying regulation to the terms of the debt, states can channel the hydraulic force of the market, which will pass these costs on to the originators of the debts - including federally-chartered banks. This would create an incentive for originating lenders to adjust the terms under which they originate consumer debts so as to avoid state regulatory costs. This Article contends that such regulation would not run afoul of preemption doctrine because it does not directly regulate federally-chartered banks; it affects them only indirectly, through the market.
banks, thrifts, preemption, consumer protection, regulation, securitization, secondary markets, OCC, OTS, chartering, refund anticipation loans, payday loans
Abstract: This article is a response to Professor Yair Listokin's article: Paying for Performance in Bankruptcy: Why CEOs Should be Compensated with Debt. In this response, I argue that the Professor Listokin's proposal is for empowering creditors' committees to bind all unsecured creditors to compensate managers with a vertical strip of unsecured pre-petition debt is, at best, duplicative of existing corporate governance mechanisms and, at worst, detrimental to good governance. As a general matter, the case for incentive compensation of kind in bankruptcy is weak. Bankruptcy has many more corporate governance safeguards than normal business operations, so it has less need for incentive compensation. Firms operate in bankruptcy under supervision of creditors, the United States Trustee, and the court, so management is much more constrained in its actions, and agency problems are less than in normal business operations. Moreover, the dynamics of the turnaround industry provide market discipline on managers of bankrupt firms. Professor Listokin's proposal would also impose considerable systemic costs. Giving creditors' committees binding authority of any sort has significant, if not prohibitive systemic costs on the bankruptcy process. It would require substantive consolidation of the different debtor entities in a firm as well as revision of the process of selecting and governing creditors' committees. Finally, Professor Listokin's proposal is based on assumptions about valuation, capital structure, and residual ownership that run contrary to empirical data and observation. A problem that bedevils all corporate governance reforms in bankruptcy is the difficulty in identifying the residual owner(s) ex-ante given the uncertainties of valuation and variations in capital structure. If the proposal's assumptions are relaxed to account for real world uncertainty, the incentive pay structure he proposes could exacerbate agency costs. Management compensation in bankruptcy is an important and understudied issue, but Professor Listokin's unsecured debt proposal is unlikely to be adopted by the market.
bankruptcy, corporate governance, performance pay, incentive pay, incentive compensation, performance compensation, unsecured, debt, substantive consolidation, creditors' committee, valuation, residual owner, turnaround
Abstract: Merchants pay banks a fee on every credit card transaction. These credit card transactions cost American merchants an average of six times the total cost of cash transactions. The variation in fees among credit cards is also large, with some cards, such as rewards cards, costing merchants twice as much as others.
The largest component of the fee merchants pay goes to finance rewards programs, which in turn generate more credit card transactions. Although merchants finance the rewards programs, they derive no benefit from them. Rather than generating additional sales, rewards programs merely induce consumers to shift transactions from less expensive payment systems to more expensive rewards credit cards. Why, then, do all consumers pay the same price for purchases, regardless of the means of payment?
The answer lies in a set of credit card network rules known as merchant restraints. Merchant restraints prohibit merchants from accepting certain credit cards selectively and from pricing goods and services according to cost of payment. These restraints thus prevent merchants from signaling to consumers the costs of different payment methods. Accordingly, consumers never internalize the costs of their choice of payment system. Merchant restraints thus encourage more credit card transactions at a higher price than would occur in a perfectly efficient market. The restraints also permit card issuers to externalize the costs of rewards programs to merchants and, ultimately, to consumers who do not use rewards cards.
This Article argues that merchant restraints distort competition within the credit card industry and among payment systems in general. Further, merchant restraints' economic justifications are unfounded, and they should be banned as antitrust violations.
Abstract: This paper examines the policy assumption underlying the special protection given to home mortgages in bankruptcy - namely that protecting lenders from losses in bankruptcy will encourage them to lend more and at lower rates, thus encouraging homeownership. This paper tests this policy assumption empirically using both current and historical mortgage market data. Current mortgage origination pricing, private mortgage insurance premiums, and secondary market pricing all indicate that mortgage markets are indifferent to bankruptcy modification risk. Historical mortgage pricing data from the 1980s and 1990s, when a particularly significant type of modification was permitted in almost half of federal judicial districts, also indicates that mortgage markets are largely indifferent to bankruptcy modification risk.
bankruptcy modification, mortgage market
Abstract: This short essay sets forth the case for permitting modification of all residential mortgages in bankruptcy as an important step in easing the foreclosure crisis, stabilizing the financial system, and protecting against systemic risk going forward.
bankruptcy, mortgages, securitization, systemic risk, foreclosure
Abstract: Fictitious scare statistics have featured prominently in recent debates over consumer credit policy. The latest example is David Evans and Joshua Wright’s statistical claims about the impact of the Consumer Financial Protection Agency Act on the cost and availability of consumer credit and economic growth. This brief critique shows that the claims in Evans and Wright's study - funded by the American Bankers Association - are either based exceptionally flawed methodology or wholesale conjecture.
Consumer Financial Protection Agency, consumer credit
Abstract: This Essay argues for the introduction of public competition in the payment card clearance market as a method of addressing suboptimal competition in an industry with extremely high barriers to entry. The Federal Reserve competes with private parties for check, wire transfer, and ACH clearance, and, through competition, has forced par clearance to become the standard in these markets; only by historical accident is the Fed absent as a competitor for payment cards, which do not clear at par.
The Essay sets forth a framework for evaluating whether public competition should be introduced to a private market and argues that the Fed’s provision of a low-cost, par-clearing competitor would improve payment card clearing competition, discourage the consumer overleverage and cross-subsidization that result from the current discounted clearance system, and spur innovation.
Abstract: This short article provides an overview of the legal and transactional issues involved with Remote Deposit Capture, a method for depositing checks without physical delivery to the depositary institution.
remote deposit capture, RDC, checks, Check 21, fraud
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