The CFPB, Not What It Was Hoped to Be

A few days ago, as I got up to leave a Washington cafe, I was stopped by a medical doctor sitting at the next table. "You are Sen. Elizabeth Warren, right?" he asked with giddy expectation. He was visibly crushed when I informed him that I was not the person he so enthusiastically hoped I was. My cafe neighbor's experience — great anticipation and excitement followed by severe disappointment — is one that is all too common in Washington. Things simply are not always what they first appear to be and may, in fact, be dramatically different. The Consumer Financial Protection Bureau (CFPB) — an entity inspired by Warren (D-Mass.) — is another example of the phenomenon of disappointed expectations.

The CFPB was created by Dodd-Frank to protect consumers as they engage in financial transactions. The complexity and importance of consumer financial products and services, the champions of the bureau reasoned, warranted the formation of a new agency charged specifically with looking out for consumers' best interests.

The reality is not so rosy. The bureau's actions, although intended to protect consumers, harm them by limiting their options and raising their costs. Consumers with the fewest options — consumers in the most precarious financial circumstances — are particularly vulnerable to the bureau's supposedly protective initiatives. Consider, for example, the difficulties that families attempting to buy or sell a manufactured home now face because of rules that block the types of mortgages that are commonly available for these homes. Admittedly, manufacturing housing loans are high-cost, but they are also high-risk. For a would-be buyer, the alternative might be an even more costly rental apartment.

Or consider the bureau's planned proposals for payday and other consumer loans. Among other things, "lenders would have to determine at the outset of each loan that the consumer is not taking on unaffordable debt." The contemplated requirements would make those loans much more work-intensive for lenders, would expose lenders to additional legal liability and would likely drive some lenders out of business altogether.

The bureau and its creators operate under the assumption that the consumer financial contracts in use today are a zero-sum game. According to this view, there is a winner — the financial company — and a loser — the consumer. In a voluntary exchange, both the consumer and the company benefit when a consumer takes out a loan. The consumer has access to money now that she otherwise would not have. The financial company will receive future payments to compensate it for making the money available now. Everyone is happy.

Certainly, the consumer would be even happier if she were wealthy enough not to need the loan at all. The CFPB can't fix that problem by placing regulatory restrictions or prohibitions on a consumer financial product. As economist Tom Durkin and Professor Todd Zywicki wrote recently in The Washington Post, "Eliminating access to preferred products doesn't eliminate the need for credit."

Consider the example drawn from a 19th-century legal case that Professor Michael Munger provides of a shipwrecked captain, who desperately wants to save his and his crew's life:

It's perfectly true that the captain of the Richmond is "coerced by circumstance." After all, he's on the rocks, the ship is breaking up, and it is likely that he and the crew will all die if they are not rescued. It would be paradoxical to prohibit ... a contract that allows the captain to escape this desperate circumstance. After all, our moral intuition is that we should help the desperate. But if we outlaw the contract for the rescue in the name of our virtue, we harm the very party we pretend to care about.

Likewise, an emergency short-term loan can be a costly, but much-wanted and needed lifeline for a consumer in dire financial straits.

The CFPB typically opts for regulatory solutions that fall short of an outright ban. If not properly crafted, these regulations can harm consumers as financial institutions pass on some or all of the costs of new regulations to consumers. Even if lenders absorb the cost of the new regulations, consumers may end up borrowing more than they need because the lender cannot afford the fixed costs associated with smaller loans.

The CFPB, by failing realistically to consider how its initiatives affect consumers, is not having the salutary effect on consumers that its proponents believed it would have. In fact, it is exposing them to new worries and costs.

Just as my cafe neighbor was disappointed to discover that I was not Sen. Warren, supporters of the CFPB are likely to be disappointed that it is not what they had hoped. Instead, the bureau is building a regulatory infrastructure that harms consumers by limiting their options, forcing them into one-size-fits-all products and raising their costs. Consumers would be better off with more options and clear disclosure so that they can choose wisely, rather than with a bureau that wishes away consumers' financial realities and tries to choose for them.