37 Pages Posted: 23 Aug 2009
Date Written: July 15, 2009
This testimony addresses the proposal of the Obama Administration to create a new Consumer Financial Protection Agency (CFPA) which would have the authority to issue and enforce new regulations related to consumer lending products. This testimony criticizes the proposal on three grounds. First, the basis for the proposal is based on misguided paternalism that arises from a fundamental misunderstanding about the causes of the consumer element of the financial crisis. While there were undoubtedly cases of fraud by borrowers against lenders and lenders against borrowers, the fundamental cause of the crisis was misaligned incentives, not consumer protection problems. Lenders made many foolish loans that created the crisis — but those loans were foolish because they failed to consider the incentives that they created when interest rates rose, home prices fell, and their interaction with other state laws. As a result, they created major safety and soundness concerns, but not major consumer protection problems. Second, by detaching consumer protection issues from safety and soundness concerns, the CFPA will likely produce unintended consequences that could lead to more foreclosures, less product innovation, and higher prices and reduced choice for consumers. In particular, proposals to ban prepayment penalties on home mortgages would likely increase foreclosures and new regulations on mortgage brokers will lead to reduced competition and higher prices for consumers. Third, the CFPA will create a new bureaucracy prone to the same dysfunctions and information problems of any other bureaucracy. A new bureaucracy of this sort is not necessary.
Keywords: abuse, adjustable rate mortgages, ARMs, credit cards, default, Federal Reserve Commission, fixed rate mortgages, FTC, Federal Trade Commission, low-documentation loans, misplaced paternalism, personal responsibility, rational consumer response, subprime mortgages
JEL Classification: D10, D14, D18, K35
Suggested Citation: Suggested Citation
Zywicki, Todd J., Testimony Before United States House of Representatives Committee on Financial Services on Proposed Consumer Financial Protection Agency (July 15, 2009). George Mason Law & Economics Research Paper No. 09-38. Available at SSRN: https://ssrn.com/abstract=1459085 or http://dx.doi.org/10.2139/ssrn.1459085