The Consumer Financial Protection Agency proposed by President Obama has the potential to be a champion for financial services innovation that promotes greater inclusion of the underbanked.
Unfortunately, the current plan is virtually all sticks and no carrots. While access to financial services is billed as a core principle of the proposed agency, the plan offers few details about how access would actually be improved.
Post-meltdown regulation has been almost entirely focused on the quality of credit rather than its availability. Quality is no doubt important, and there are several immediate steps the agency could take to rein in bad practices.
However, the design of the agency is predicated on the assumption that everyone took on too much credit during the boom. Indeed, too much bad credit was provided over the last decade to too many people who were unable to repay. But plenty of consumers were left out, and still are.
About 40 million American households — 106 million people — are unbanked or underbanked. Another 50 million consumers lack a credit score. Whether or not they have a traditional bank account, these consumers rely on an array of other financial products and providers to meet their needs.
Many of the providers who serve the underbanked are situated beyond the bounds of rigorous prudential regulation. While significant responsible innovation has occurred in the last five years to improve the offerings available to them, both the quantity and quality of underbanked financial services are still lacking.
As the author Barbara Ehrenreich wrote in a New York Times op-ed piece earlier this month, things were bad for these consumers before the financial crisis. The underbanked have been further marginalized as a result of the downturn, whether or not they took out a subprime mortgage or racked up thousands of dollars of credit card debt. They are perceived as subprime, and subprime has become a dirty word.
The question now is this: Can a new agency dedicated solely to consumer protection strike the right balance between quality and access in order to truly advocate for the underserved? I think it can.
First, the agency needs to focus more attention on nonbank institutions, particularly those not affiliated with banks.
The Obama administration's proposal describes mortgage companies not owned by banks as falling into a "regulatory 'no man's land' where no regulator exercises leadership and state attorneys general are left to try to fill the gap." The same can be said of other nonbank financial services providers, which are primarily governed by a highly uneven set of state laws and licensing regimes.
New, more uniform regulation and enforcement is needed to weed out bad actors and support good ones. A consumer financial protection agency would be well positioned to play this role.
One way to do this would be to create a new federal nonbank charter or licensing regime. The economics of so-called money-services businesses — bill payment, money transfer, prepaid cards and the like — demand national scale. The most innovative providers are more likely to opt for a strong federal charter with a high bar than to seek and maintain licensing in 50 separate states.
The Obama proposal suggests that the agency should be authorized to do exactly this, though the examples it points to — debt collectors and mortgage modification outfits — suggest a need for a broader approach.
The 2008 SAFE Act, which creates a federal licensing system for mortgage originators, has paved the way for more thinking of this kind.
The new agency also needs to promote innovation by banks to increase competition and broaden options for consumers. The only real incentives in the proposal flow from the Community Reinvestment Act, which the proposed agency would enforce.
CRA is in desperate need of modernization — in terms of the products and services it encourages, the entities it covers, and the incentives it provides for good performance.
CRA could once again be a strong lever to promote innovation and competition in underserved markets.
To do so, it would need to do a better job of encouraging the provision of basic financial services, and it would need to level the playing field by covering both banks and nonbanks.
The incentive structure is critical. For banks, a good CRA rating has been a prerequisite for mergers and branch closings.
Those may no longer be the most valuable incentives for promoting a robust focus on underserved markets.
For nonbanks, the existence of a federal charter or license provides fertile new ground for designing meaningful incentives to encourage responsible, robust provision of financial services in lower-income communities.
For instance, strong CRA performance could be the switch that entitles them to federal preemption.
As the debate over consumer protection continues, quality counts. But so does access. Let's make sure we provide services to the people who need them — and that we make those services fair and safe. The two goals must go hand in hand.
