For anyone thinking, teaching, or writing in the area of consumer financial decision making, the Boulder Summer conference is top notch. The last time I attended, the keynote from Dick Thaler addressed SMART disclosure, Tess Wilkinson-Ryan presented empirical evidence showing that borrowers are less likely to feel obligated to repay debts when those debts have been sold to third parties than when held by the original creditor, Linda Salisbury presented empirical work on the effectiveness of CARD Act minimum payment warnings, and Credit Slips' own Bob Lawless presented evidence of discrimination in advice given to bankruptcy filers. Abstracts are due this week if you have something you'd like to present (submit abstract link). The conference is May 18-20, 2014 at the swanky St. Julien Hotel in beautiful Boulder, Colorado. Official conference description follows the jump.
Author: Lauren Willis
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Another Myth of Consumer Law?
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As the CFPB gears up to regulate arbitration clauses,
a timely article by Omri Ben-Shahar has been posted on ssrn. Part of
Ben-Shahar’s “Myths of Consumer Law” project (see here, here, and here ), The Myth of Access-to-Justice in Consumer
Law contains some provocative insights, but key blind spots lead the
piece to unwarranted conclusions.The conclusions are that pre-dispute arbitration and class
action waiver clauses in consumer contracts benefit weak consumers. To get
there, Ben-Shahar first notes that consumers are not a homogeneous group and access
to justice in the courts is far from evenly distributed. Because elites are
more likely to sue and are likely to collect higher damages (one of the many
reasons they are more likely to sue), giving all consumers the right to sue is,
in effect, a regressive cross-subsidy from poorer consumers to those elites. -
The Gamification of Financial Education
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A hot trend in financial education (and elsewhere) is
gamification. Make it fun and they will
come, and (hopefully) learn and change!What is gamification? A PEW report
defines it as "interactive online design that plays on people’s competitive
instincts and often incorporates the use of rewards to drive action–these
include virtual rewards such as points, payments, badges, discounts and 'free
gifts'; and status indicators such as friend counts, re-tweets, leader boards,
achievement data, progress bars and the ability to 'level up.'" The idea is to apply the fun and excitement
of games to non-game activities. The
explanation
from the VP of one gamification consulting firm is explicit: "'It's
using the dynamics and mechanics of psychology that make games so
addicting, so
sticky, so
engaging.'"Gamification can be used to encourage simple
habit-formation
(e.g., hand-washing in hospitals) or
major scientific efforts (e.g., modeling a protein important for
developing
retroviral drugs). When used with an intent to teach information
and skills rather than an intent to motivate particular actions, it is
sometimes called "edutainment." -
A Final Pet Peeve: The Right to Consumer Financial Industry Data
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Thank you to the Credit Slips team for allowing me to use their soapbox for the last few weeks. I leave you with a final pet peeve: Why does the government have to rely on commercially-collected financial industry data sets or voluntary surveys of financial firms to discover the effects of policies the government has put in place? This is just embarrassing. The U.S. government has so little power over the financial industry – an industry that only exists by virtue of the full faith and credit, payments systems, FDIC insurance, etc. provided by the U.S. government – that it cannot demand data from banks and financial firms, but instead must ask politely for voluntary survey answers or search the data market and pay for information like a commoner?
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Dancing Around the Risk Question
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Reflecting on my last two posts – price caps, loan structure requirements, underwriting rules – discussing any of these puts the cart before the horse. We know we want to rein in risk without cutting off access to credit that is not too risky. But how much risk is too much risk when it comes to credit?
I began posing this question to audiences at one of the very first talks I gave as an academic (a 2005 talk about predatory mortgage lending), but while most of my talks generate plenty of responses, not once has a single audience member attempted to answer this question.
It is a remarkably difficult question to answer, one that varies with the expected costs and expected benefits, to borrowers, lenders, and society, of each extension of credit. Moreover, actual future costs and benefits are often unknown and perhaps unknowable (meaning we are dealing with uncertainty, not merely outcomes with known risk distributions) and incommensurable (meaning tradeoffs are difficult).
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The Virtues of Price Caps
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In the last post I discussed the potential benefits of price caps in the small loan market, one of which was to bring the price down to what consumer price shopping would produce if it were present in that market. Now I would like to turn to the potential benefit of price caps in even the most (albeit still quite imperfectly) price-competitive credit market, the mortgage market.
While superficially appearing to be about price, the primary potential benefit of credit price regulation is that it can rein in risk. Even in the small loan market, the primary problem is not paying high, noncompetitive prices, but the risk of not being able to pay off the principal and then being trapped in debt servitude to a loan shark. This trap imposes social costs and high psychological costs on the borrower. The primary problem in the mortgage crisis has also been risk, the risk of default and foreclosure. Risk is intimately tied to price in both situations, but setting a “fair” or “efficient” price seems to me to be to be secondary. (Then again, I am culturally tone-deaf, so maybe fairness in pricing is really what has motivated usury restrictions over the centuries; some historical accounts, however, place the risk of debt servitude as the primary motivator).
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Usury and the Loan Shark Myth
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Consumer financial education, disclosure, and defaults all dispensed with in my prior posts, shall we move on to “substantive” regulation, dare I even say “usury”? Before we do that, I need to clear up another myth that, like the belief in the efficacy of consumer financial education, is deeply ingrained: the loan shark myth.
Forthcoming in the Washington & Lee Law Review is a historical expose of the relationship – or lack thereof – between credit price regulation in the small loan market and loan sharking. The author, political scientist Robert Mayer, finds that what the popular culture has called loan sharking consists of two different types: violent and nonviolent. Both have been characterized by: (1) high prices, in excess of usury restrictions where such restrictions have applied, and (2) short-term, nonamortizing loans made to people who have a decent likelihood of being able to pay the interest amount due at maturity but a low likelihood of being able to pay off the principal balance, resulting in a steady stream of interest income to the lender as the loans roll over and over. It is this second feature that in the 19th Century first earned even nonviolent loan sharks their “shark” moniker – a single loan, even if it is expensive, looks harmless enough, but stealthily traps the borrower in a cycle of debt.
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When Nudges Fail: Slippery Defaults
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Now that my last few posts have bludgeoned consumer financial education and at least bloodied disclosure, and given that my suggestion of comprehension requirements is completely untested as a means of consumer protection for financial products, what about “nudges”?
One nudge I have taken a close look at is the use of policy defaults. Defaults are settings or rules about the way products, policies, or legal relationships function that apply unless people take action to change them. Although some defaults in the law are mere gap-fillers and others, as pointed out by Ian Ayres and Robert Gertner, penalize one or more parties with the intention that the parties will contract out of them, policy defaults aim for stickiness. The idea behind policy defaults is to set the default to a position that is good for most individuals, under the assumption that only the minority who have clear preferences to the contrary will opt out.
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Disclosure 3.0: Making Disclosure Smarter
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What if, instead of making the consumer smarter or the disclosures more comprehensible, as discussed in my last several posts, we made financial product disclosures smarter? For the uninitiated, “smart disclosure,” according to the federal White House Task Force on Smart Disclosure, is “the release of data sets in usable forms that enable consumers to compare and choose between complex services.” The Task Force description continues: “Smart disclosure requires service providers to make data about the full range of their service offerings available in machine-readable formats such that consumers can then use these data to make informed choices about the goods and services they use. While consumers may access the data directly in some cases, the data may also be useful in enabling government agencies or third parties to create online tools for consumer choice.”
The idea is that both the government and firms will be required to release, in close to real time, complete price, feature, and performance data about products and services offered by the firm or government entity (“product data”) so that consumers can input their own preferences into on-line or mobile app tools (“infomediaries”) that can then recommend the products or services that will best meet those preferences. Kayak for everything!
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Putting Disclosure to the Test: User Comprehension Requirements
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Given the limitations of Disclosure 2.0 and Disclosure 2.5 I described in my last posts, what is to be done? To answer this question, we might first ask what financial product disclosure is attempting to achieve. Although disclosure has several aims, one is consumer comprehension to the degree necessary to enable good decisions. Disclosure rules require particular information to be imparted, often in a specified format. What if the law instead allowed firms to disclose whatever truthful and nonmisleading content they choose in whatever format they choose, but required firms to demonstrate, through field-based testing, consumer comprehension of the key facts about the financial product needed to make a good fact-based decision?