Reply #88: Banks Must Protect Consumers to Protect Themselves

[Demeter]

http://www.nakedcapitalism.com/2009/10/guest-post-banks-must-protect-consumers-to-protect-themselves.html

By Jonathan Mintz, the Commissioner of the New York City Department of Consumer Affairs, and Richard H. Neiman, the Superintendent of Banks for the State of New York:

For over a year, most of us have agreed that reform of our financial regulatory system is essential to our future financial stability and economic growth. Yet further consensus has been difficult to achieve.

With House committee debate and markup of Congress’s reform bills underway we, a bank regulator and a consumer protection official write to unify two perspectives that have created more conflict than necessary in this debate. We reject the myth, as many have unfortunately framed it, that consumer protection and prudent bank regulation are in conflict. Risky or deceptive financial products hurt the economy as a whole as much as they hurt the consumer. The public deserves — and our economy requires — that we concentrate on a strengthened system of financial oversight that demands clear, fair, and prudent banking and lending products and practices.

More important than the discourse over whether it would be better to combine or separate bank regulatory and consumer protection agencies is the idea that we first collectively agree that the solution must leverage and strengthen the resources of both disciplines. The New York State Banking Department (NYSBD) is the oldest bank regulatory agency in the nation, regulating state-licensed and state-chartered financial entities. New York City’s Department of Consumer Affairs (DCA) is the first municipal consumer protection agency in the nation, enforcing a fair and vibrant consumer marketplace. Through our cooperation in developing consumer products and financial education programs, we have experienced firsthand the benefits of combining our perspectives and offer three observations based on that experience.

First, smart consumer protections enhance choice and encourage a more competitive and more stable marketplace. Consumer protection at its core is about a clear offer that can be meaningfully accepted; it is a red herring to suggest that consumer protection leads to limitations on consumer choice. Excessive latitude toward overly complex, aggressive and deceptive marketing created a robust but short-term recipe for profit, but sacrificed sustained profitability, a stable customer base and ultimately the entire economy. And it decimated millions of individual families’ financial stability, primarily those least able to afford having their modest resources plundered.

Second, while expanding financial literacy is critical, it is insufficient alone to protect consumers. Deceptive practices must be banned and truly effective disclosures for complex products must be required. The vast bulk of consumers who avoid mainstream banking do so because of well-founded fears of unexpected and destabilizing fees and hidden product features, not a lack of education. Overdraft protection plan fees are the prime example. The Federal Deposit Insurance Corporation reports that overdraft fees on debit transactions-which average $27 on overdrafts averaging just $20-represents a staggering annual percentage rate of 3,540 percent. According to a recent Moebs Study, bank revenues from these fees may total $38.5 billion this year alone. Credit products offer more of the same: hidden disclosures, costly fees and imposed surprises. In addition to prohibiting unacceptably unsafe financial products and services, we need to empower consumers to distinguish between safe and potentially dangerous products, for their benefit and the stability of our economic system.

Third, we therefore propose the development of a nationally recognized rating system that would clearly communicate product safety and complexity. With advice from diverse stakeholders, this rating function would be enforced across the spectrum of banking regulators. These product ratings would aid consumers in selecting suitable products, and would provide a useful tool for evaluating Community Reinvestment Act (CRA) compliance in a qualitative way, reforming the program’s stifling “check-the-box” mentality which fails to bring meaningful banking services to many communities.

For example, simple and transparent products would be appropriate for many consumers and could receive green light safety ratings. Product features that add complexity or riskiness for those with lower incomes could be given a yellow light designation. And products with features that are inherently dangerous or expensive to the majority of such consumers could be labeled with a red warning, alerting consumers to high risk. Think of skiing. Who would ever venture down a mountain without first knowing if the trail was rated for beginners or was a double black diamond, for experts only?

Approaches such as this ratings system wouldn’t constrain financial institutions to anything other than free market competition, while at the same time empowering consumers to choose the most appropriate financial products and services for their individual needs. If this idea can unite these two regulators, perhaps it can unite the two sides of the debate as well.