The federal consumer protection system failed the country, disastrously, in the years leading up to the mortgage crisis. One big cause was the sharing of responsibility for compliance with laws and regulations among several agencies that communicate poorly with each other and tend to put the bankers’ interests first and consumer protection second — if they pay attention to it all.
The Obama administration was right on the mark last week when it recognized this problem and proposed a solution: consolidating the far-flung responsibilities into a strong, new agency that focuses directly on consumer protection. The plan, modeled on a bill already introduced in the Senate by Richard Durbin, Democrat of Illinois, deserves broad support in Congress.
Before the current crisis, the lure of big money from Wall Street, which could not get enough of mortgage-backed securities, spread corruption right through the mortgage process. Banks and mortgage companies fed kickbacks to brokers, who often steered borrowers into high-risk, high-cost loans. Appraisers did their part by inflating property values so that people could borrow beyond their means.
Deceptive practices became the order of the day. Borrowers who thought they were getting traditional fixed-rate mortgages sometimes learned at the last minute that they had been given loans with escalating interest rates, exploding payments or complicated structures that they clearly did not understand.
Federal regulators were slow to recognize the rising threat to the economy. They were also vulnerable to “regulatory arbitrage” by the banks, which currently get to choose their own regulators. If one regulator seems too scrupulous, a bank can shift to another and then another, in search of the weakest possible oversight.
Federal regulators may even have accelerated the mortgage crisis by invalidating state laws that would have protected people from misleading and predatory lending practices. By pre-empting those tougher state laws, the regulators helped create an atmosphere in which risky lending practices became the norm.
The new agency envisioned by the Obama administration would put an end to this slippery practice. It would have authority over all banks, credit card companies, other credit-granting businesses and independent, nonbank mortgage companies, which are currently not covered by federal bank regulation.
One of the agency’s principal responsibilities would be to ensure that mortgage documents are clear and easy to understand. Federal rules would serve as a floor, not a ceiling, so that the states could pass even more stringent laws without fear of federal pre-emption. The administration also envisions a data-driven agency that would react swiftly to events like the ones that should have foreshadowed the subprime crisis.
In general, the new agency would require little in the way of new institutional infrastructure. As the administration notes in its proposal, three of the four federal banking agencies have mostly or entirely separated the consumer protection function from the rest of the agency. It would be a relatively simple matter to consolidate those divisions in a new, free-standing agency.
Congress should resist its typical urge to water down this plan for the special interests that write campaign checks but helped precipitate this crisis. Lawmakers need to bear in mind that consumer protection laws don’t just shield individuals. They also protect the economy. That’s a good argument for building a strong, effective consumer protection agency.
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