Why do community banks oppose the CFPA?

By Felix Salmon
August 3, 2009
Simon Johnson, today, wonders why America's small community banks are lobbying against the Consumer Financial Protection Agency, or CFPA. He gives some very big-picture reasons why they shouldn't -- basically, what's good for consumers is good for their bankers. But on a much narrower level, the opposition still doesn't make much sense. Here are some reasons why:

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Simon Johnson, today, wonders why America’s small community banks are lobbying against the Consumer Financial Protection Agency, or CFPA. He gives some very big-picture reasons why they shouldn’t — basically, what’s good for consumers is good for their bankers. But on a much narrower level, the opposition still doesn’t make much sense. Here are some reasons why:

  1. Small community banks are good at boring, simple banking — think the Bailey Building & Loan. That kind of activity should pass a CFPA audit without breaking a sweat. Conversely, a CFPA audit is akin to a tax on size and complexity — the more opaque a bank and its products, the harder it will be to persuade the CFPA that what it’s doing is good for consumers.
  2. Small community banks compete with predatory lenders, and in extremis are forced into the gutter with them. The CFPA, by severely curtailing predatory activity, moves the battleground back onto the community lenders’ own turf. More generally, the CFPA will turn formerly-unregulated lenders into regulated financial institutions, which will help level the competitive playing field.
  3. The CFPA is rightly prejudiced against yield spread premiums and other hidden ways of gouging consumers, such as putting prime customers into subprime loans. Small community banks don’t engage in such shenanigans. Meanwhile, community banks are really good at old-fashioned know-your-customer underwriting, which the big financial institutions find more or less impossible.

So why the opposition? I think it’s a combination of fear of the unknown, on the one hand, and fear of the big banks, on the other. Since every regulator to date has been successfully captured by Wall Street, it’s reasonable to assume that the CFPA might end up being captured by Wall Street too. In which case the burdens of the CFPA might end up being borne disproportionately by smaller community banks.

Mike Konczal sends me a great quote from Richard Serlin, I’m not sure exactly where it comes from, but it’s spot-on:

There may be great opportunities to profit by deceiving consumers, and large scale advertising and other marketing can be very effective at that. Big companies are much more capable of doing this than small ones because of the great economies of scale involved. With regulation, you can take away these opportunities to deceive people into taking bad deals with large scale marketing, and this hurts the big companies’ competitiveness much more than the small ones’.

This may be an important issue. With things more plain vanilla and clear, a lot of customers may have a natural preference to go with the local community bank. If the big and/or internet banks can’t falsely make it seem like they have a substantially better deal through confusion, a lot of people may like to just go to their local bank, by their home, and sit down with someone.

The question is, how do we persuade the community bankers themselves of this? How can we turn their fear into greed? Because they could make the difference between the CFPA coming into existence and it dying a death in committee somewhere.


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Fund the CFPA by a tax on bank size, and make it progressive.

CFPA would also mean less power concentrated at the Federal Reserve, which is dominated by the interests of larger banks.

Felix, as someone who has been working in banking compliance for the past ten years, your thinking here is right on as Serlin’s.

Here are a few ideas for getting the smaller banks (and credit unions) on board:

1. Skip over the organized banking associations, and go directly to boards and CEOs of very small institutions. The organized banking groups, including the CBA and CUNA Mutual, and probably most state level organizations, have already been captured by those who oppose regulation generally and the CFPA idea in particular – but a strong enough push from their constituent groups may be enough to change their slant.

2. Get Elizabeth Warren and any other strong voices that can get MSM coverage onto the point that smaller banks and CUs will only be helped by taking away the predatory advantage of larger banks.

3. Get Barney Frank or another strong Congressional leader to threaten that, if CFPA does not go thru, Congress will define certain practices as predatory, and amend section 5 of the FTC Act to explicitly define those practices as “unfair and deceptive”. It’s the failure of Congress to provide a clear defintion of “predatory” “unfair” and “deceptive” that has kept the timid regulators from actually taking on these practices (contact me at my email if you want a brief history of what they have done). As long as there is fuzziness about these definitions, the lawyers for the regulators will balk at taking on the lawyers for the banks.

4. Where the hell is ACORN in all this? The Center for Responsible Lending has been leading the way, but ACORN is the only group that has successfully sued for action in this field, when they forced Household Finance into the arms of HSBC in 2002-03. Get some serious lawsuits in the plaintiff’s bar going to generate press about these practices, in order to keep generating discoverable facts that will keep the big banks off-balance. If you can get a good big plaintiff’s firm onto this, I’m sure there are quite a few folks now that would be happy to share their thoughts from the inside about some practices that might be worth suing over. But the plaintiff’s bar has to take this on in the same way they took on the tobacco industry. Maybe Spitzer would be willing to lead this…he’s certainly got the connections to get it going.

The sad fact is that we’ve really only begun to scratch the surface of the incompetent management and intentional regulatory violations that are taking place. By my rough count, there are a few billion dollars in fines and compensation that could be litigated – but I haven’t heard of a single major class-action coming out of this yet.

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Felix, interesting post. I work in management at a mutual savings bank institution in upstate New York. You are correct in saying that the direction the CFPA would drive regulation is what we are already doing, and I think that is a good thing.

The challenge that legislators and regulators will face regarding support of smaller institutions is cynicism. Financial regulation is extraordinarily expensive for small institutions, as is the provision of deposit insurance. Community banks work hard to meet the expectations of regulators and examiners, and spend a significant amount of money on auditors, consultants, and other professional services to do so.

Yet another layer of regulation, which in the perspective of community institutions will be substantively ineffective in regulating – if not completely ignored and bypassed – by industry gorillas, will undoubtedly add to the regulatory cost of doing business. Making it harder and more expensive to be a responsible and prudent vanilla banker.

Among community banks, there is wide-spread resentment of constantly getting the short end of the stick. In good times, they work hard to make good decisions, sometimes in spite of regulators, and they pay their share for deposit insurance and regulation. In bad times, they are called on to make deposit insurance premiums in multiples of what is ordinarily assessed, and are then burdened with another set of regulatory requirements that will likely end up being a waste of time, energy, and money.

The real winners here are bureaucrats, consultants, ill-trained government examiners, and other professional services – bankers that ignore the rules and make outsized salaries and bonuses notwithstanding.

I think I mentioned in a previous comment that economic growth is predicated on investment in productive assets. An important facet of this discussion to realize is -that without some rationalization of regulation, regulating bodies, and regulatory costs – proposal of far reaching regulation is creating further drag and diversion of resources, reducing our systemic ability to invest in worthwhile projects.

Believe me, I am certain that more stringent controls are necessary to restrain irresponsible behavior in the marketplace. Ordinarily, one would argue that the market should provide those controls – let the imprudent fail. In this case, however, we have allowed for institutions to build to a level at which their failure poses a systemic risk. Further, the document on financial regulation released by the Obama administration calls for deconstructing all remaining barriers to interstate banking, which to me would not address the systemic issue of institution size – it would appear to exacerbate it. Herein lies a problem, regulators propose to regulate actions more stringently, especially for large institutions, but at the same time remove other barriers for these institutions to continue their wild and ill-conceived growth. You can’t have it both ways.

For community bankers to get on board, they need to be convinced that it will be in their interest to do so. It can’t pose higher requirements, increased cost, and restrain them further. It must have the strength to reign in the industry gorillas effectively and substantively.

It seems like a difficult task to me. Especially with the strength of the industry lobby.

The fixed cost of dealing with a government bureaucracy will hurt small banks much more than big banks. That is why small banks rightly fear this agency. They know that even without regulatory capture they will be adversely impacted by this agency. And they see no gain, which is almost certain if Elizabeth Warren is the chair.