Consumer 11.0: Republicans trying to derail financial overhaul

GEORGE TURNEY / Orange County Register
GEORGE TURNEY / Orange County Register
Posted: May 15, 2011

Politicians are notorious for counting on voters having short memories. Even so, the current push by congressional Republicans to derail the fledgling Consumer Financial Protection Bureau, and to undermine other key elements of last year's hard-won financial reforms, stand out for their sheer gall.

Last I looked, the nation is still suffering grievously from the last decade's housing bubble and the financial crisis and recession triggered by its collapse. The result: The worst sustained unemployment since the Great Depression, along with deep shortfalls in federal and state budgets - which is what happens when revenues collapse and expenses rise to cope with a severe downturn.

So what are GOP leaders trying to do about it? As always with Washington politics, it's crucial to keep your eyes focused in more than a single direction.

On the main stage is the battle over the budget - an epic drama pitting President Obama against Republican leaders and featuring themes that center on what we value more as a society: Low taxes and minimal government vs. public investment and a strong safety net for the elderly, disabled, and poor. The final acts remain unwritten, even as Republicans try to use the debt-ceiling vote to force a quick denouement.

But if you shift your gaze for a moment to one of the capital's side stages, you'll witness another key drama with much the same ideological divide but enough strange twists to make your head spin. Its stars are slightly lesser lights: Elizabeth Warren, the Harvard scholar tapped by Obama to set up the new consumer-protection agency - her own brainchild - and Republicans such as Sen. Richard Shelby of Alabama, who has always opposed the idea of an independent CFPB.

Shelby has now convinced almost every other Republican senator to sign a letter pledging to block the appointment of anyone to head the new agency until its structure is overhauled - even before it gets off the ground in July. Apparently fearing that Obama might name Warren as its director, Shelby is insisting that no one get the post. "To prevent a single individual from dominating the actions of the CFPB it should be governed by a board of directors," the letter says.

It's true that the nation's financial mess has thick, tangled, and, yes, bipartisan roots. But one of the deepest roots was finally exposed when the housing bubble began to burst. Trace it back - as Warren does more eloquently than anyone - and you'll find a series of failures by regulators and lawmakers that first damaged consumers, then investors, and finally the whole economy.

Financial markets in the 1980s and '90s were busy with genuine innovations, such as the computerized risk-based-pricing models that opened up credit to more and more Americans. Another key innovation was securitization of mortgages and other consumer loans, which fed back investors' money into the system through instruments such as mortgage-backed securities.

All might have been well and good - if key players in Washington hadn't drunk the market-fundamentalist Kool Aid that markets are always efficient and can be trusted to self-regulate. That basic, faulty assumption put much of the nation in a deep hole long before Lehman Bros. collapsed in September 2008 and triggered the need for massive bailouts.

For more than a decade, for instance, credit card companies routinely lent money to cardholders at one rate and then, for little or no reason, bumped their entire balances to "default" or "penalty" rates as high as 30 percent or more. That and similar practices were finally barred by the Federal Reserve in late 2008 as unfair and deceptive, and were banned more firmly the next year by Congress, but only after accumulating interest left many consumers deeply in debt and pushed Americans' total revolving debt toward the $1 trillion mark.

The Fed had long had authority to stop credit card lenders from unfair or deceptive practices, just as it had authority since the early 1990s to clamp down on high-cost mortgage loans, but it failed to do so until the bubble collapsed. Nor did other banking regulators, all primarily concerned with the financial system's "safety and soundness," step into the breach.

Mortgage oversight was incredibly weak. Until the Dodd-Frank financial reform, believe it or not, there was never even a formal requirement that "ability to repay" be considered an essential element of mortgage underwriting.

The role of subprime and exotic mortgages such as "liar loans" in the collapse is widely recognized, but the threads linking the various regulatory failures are often overlooked. Such oversights - or the sorry assumption that voters have short memories - are the only possible explanations for another Republican proposal pending in Congress, which would repeal the risk-retention requirement in Dodd-Frank for those who create mortgage-backed securities.

Stupid loans that borrowers can't repay would never have been made by smart bankers or mortgage lenders, but for one reason: They lacked "skin in the game," because securitization allowed them to immediately resell the loans, which were packaged into bonds sold to investors who were ultimately left on the hook.

Warren was ahead of her time in drawing the connections among consumer abuses, misguided incentives, and broader market failures. As a bankruptcy researcher, she had long recognized the downside of some financial innovation, such as some consumers' ability to accumulate tens of thousands of dollars in debt without ever sitting down with an actual banker. The result was that even some sophisticated borrowers didn't understand the complex terms - the "tricks and traps," she likes to say - of their needlessly complex loan contracts.

The threads linking consumer abuses to the broader collapse are too numerous to detail here. Another was the pernicious link between everyday consumer debt and mortgages as lenders - include brokers pitching subprime loans - promoted home-equity loans as a way to repay credit card balances.

If you think you weren't affected by these practices because you were so prudent and smart, think again. Everybody was. For instance, there's no question that loose lending enabled poorly qualified borrowers to bid up prices for homes during the frenzied years of the bubble.

Yes, you may get some gratification by watching as the "losers" are foreclosed on and evicted - the sentiment behind Rick Santelli's founding declaration of the tea party. But you'd be mistaken for seeing that as a useful response to what went wrong.

Sadly, that's apparently why some key Republicans fear Warren so profoundly: Because her prescription - smart, evidenced-based regulation that will allow consumers to understand financial products and protect them from needless risks - might actually work.

Contact columnist Jeff Gelles at 215-854-2776 or


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