The opponents of the CFPA – not only banks, but the head of just about every current financial regulatory agency – argue that consumer protection should be combined with prudential regulation, so that one agency should be both making sure that a bank doesn’t collapse and that it isn’t abusing its customers. Many people have pointed out the flaws with this argument: first, consumer protection invariably slips down on the priority list; second, regulators become hesitant to crack down on abusive practices because those abusive practices generate the profits that make the bank “healthy” to begin with.
In addition, this combination makes the fundamental mistake of regulating financial institutions rather than financial functions, and therefore lets abusive practices simply escape to unregulated institutions. Banking regulation in the U.S. has historically been focused on making sure that banks don’t collapse, so depositors can get their money back (without bankrupting the FDIC). The result was that non-bank mortgage lenders and consumer finance companies were notoriously under-regulated. This created another opportunity for regulatory arbitrage: as Warren writes, “the Center for Public Integrity found that 21 of the 25 largest subprime issuers leading up to the crisis were financed by large banks.” In other words, banks outsourced their abusive practices to unregulated entities that they financed. How can that be a good thing?
The CFPA is many things, but it is also an example of regulating a financial function rather than a financial institution, and therefore makes regulatory arbitrage that much harder; to get outside its reach, you have to define the thing you are doing as not a financial service. (Although I think it has a weird exception for insurance products, which could turn out to be a big problem.) Since regulatory arbitrage seems to have been a core business strategy of many financial institutions over the last decade, that seems to be a good place to start.
By James Kwak