On July 14 the Senate Banking, Housing, & Urban Affairs Committee met to consider the creation of a Consumer Financial Protection Agency. According to Treasury Secretary Timothy F. Geithner, the agency would ensure that financial-services companies provide consumers with clear and concise information regarding services, protecting them from unfair or deceptive practices. The agency would also promote consumer access to fair, efficient, and innovative financial-services markets by monitoring market risks.
But do we need another consumer protection agency? And will the new agency work?
The meltdown in the financial markets and the overall downturn in the economy have created the platform for launching additional consumer protections, or so the argument goes. I think the argument is a weak one. Consumer protection legislation tends to be predicated on the protection of the consumer against fraud and deceptive practices. But the Obama Administration's proposal, as espoused by Geithner and House Financial Services Committee Chairman Barney Frank (D-Mass.), goes beyond protection from those two evils. After giving fraud the obligatory lip service, the proposal moves fast-forward into market intervention. The first red flag is the attempt to address the promotion of fair, efficient, and innovative financial services. I'm sorry, but market efficiencies are created in response to financial factors such as cost and price of the service.
Consumers Partly to Blame
How government intervention via a supposed piece of consumer protection legislation is to bring about these efficiencies has not been articulated by Congress or the Administration. Creating efficiencies through regulation typically requires the government to specify allowances for certain costs, expenses, assets, and rates of return. Do we really want a consumer protection bill to go that far?
In addition, aren't consumers partially to blame for the financial meltdown? I don't expect a consumer protection bill to protect consumers from themselves. There is only so much blame that we can put on derivatives and other pieces of faulty financial engineering. The type of intervention that we will eventually end up with only leaves one answer to the question of whether we need this prospective agency: a resounding no.
From a market failure standpoint, such an agency, given its two-pronged approach to consumer protection, may not only find itself a regulatory schizophrenic but it may also bring about the market failure it presumes to stem. Monitoring risk will lead to regulating risk. It is risk that lies at the base of creating and pricing innovative financial products. A consumer protection agency that tries to reduce risk will eventually spawn a market that does not provide innovative services and credit to consumers. This is market failure.
The other point of failure would be the lack of consumer accountability. This bill would basically take consumers off the hook for becoming financially literate and disciplined. It would create another "John Wayne" riding over the hill to save the hapless settlers. It is unclear to me why in a society with so many available and relatively inexpensive sources of information we need an über-regulator to hold our hands.