Consumer Law

Do Safety and Soundness Justify Impairing the Independence of the CFPA?

By Jeff Sovern

by Jeff Sovern

The stated reason for housing the Consumer Financial Protection within the Department of the Treasury rather than operating it as an independent agency is the importance of safety and soundness regulation; the fear is that an independent CFPA might mandate conduct that would impair the safety and soundness of financial institutions.  Let me say first that safety and soundness regulation is important.  But having conceded that, I have several problems with the idea that safety and soundness concerns require the CFPA to be part of Treasury.

First, we have had safety and soundness regulations for longer than many of us have been alive.  Yet those rules did not prevent the financial crisis from occurring (or the savings and loan crisis, for that matter).  So safety and soundness regulations did not, in fact, produce safe and sound institutions.  Otherwise, Washington Mutual would still be with us, as would plenty of other institutions, and other lenders subject to safety and soundness regulations, like Citicorp, would not have needed a bailout.  The lesson here is that safety and soundness rules are not enough, by themselves, to produce safe and sound institutions.

Second, a pretty good argument can be made that if we had had adequate consumer protection, the loans on which consumers defaulted would never have been made, and we would not have had a financial crisis with its consequent bank closings and bailouts (my own attempt at that argument can be found here).  So consumer protection regulation contributes to safe and sound institutions.  Ironically, agencies ostensibly concerned with both safety and soundness and consumer protection, like the OCC, tilted too far towards safety and soundness, and not enough towards consumer protection, thereby producing less safe institutions.

Third, look who is arguing that the CFPA should be subordinated to safety and soundness concerns: banks--the entities that made the unsafe and unsound loans that brought down the economy.  So having done what they could to avoid safety and soundness rules--like using collateralized debt obligations to avoid reserve requirements, as detailed in Gillian Tett's book, Fool's Gold--banks have suddenly found religion.  How credible is the concern for safety and soundness from that source?  Could it be a pretext for opposing consumer protection legislation?

I would very much like to hear some examples of plausible consumer protection rules that an independent CFPA might actually adopt that would undermine the safety and soundness of financial institutions.  Because I'm not sure there are any.

Full post as published by CL&P Blog on March 01, 2010 (boomark / email).