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Maximilian D. Schmeiser


Recent Developments in Federal regulation of Consumer Financial Products and their Implications for Consumer Well-Being MAXIMILIAN D. SCHMEISER – PowerPoint PPT presentation

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Title: Maximilian D. Schmeiser

Recent Developments in Federal regulation of
Consumer Financial Products and their
Implications for Consumer Well-Being
  • Maximilian D. Schmeiser
  • Federal Reserve Board of Governors
  • Disclaimer
  • The views expressed here are solely my own and do
    not necessarily represent the views of the
    Federal Reserve Board of Governors, the Consumer
    Financial Protection Bureau, or any other agency
    of the Federal Government

  • Numerous legislative and regulatory changes
    related to consumer financial products and
    services prompted by recent economic crisis
  • Including the elimination of one regulator
    (Office of Thrift Supervision) and creation of
    another (Consumer Financial Protection Bureau)
  • Changes resulted from perception that financial
    institutions were engaging in predatory and
    deceptive practices to exploit consumers
  • Also to address the systemic risks posed by large
    financial institutions

  • As a result, consumer financial service market is
  • Banks need to develop new sources of revenue to
    offset losses due to regulations
  • Reevaluation of lending practices/tighter credit
    (particularly for mortgages)
  • Consumers have experienced mortgage defaults and
    foreclosures, delinquency on credit, declines in
    asset values (particularly home equity)
  • Consumers are changing their financial behaviors

  • Regulators are also changing
  • Sense that all the regulators failed to
    adequately protect consumers over the past
    several years
  • Missed signs of the impending financial crisis
  • Got overly attached to a free market ideology
  • Reforming practices to be stronger enforcers and
    more attentive to the needs of consumers
  • Taking a consumer-centric approach to the design
    and development of rules, regulations, and

  1. Recently passed legislation and what it means for
  2. CARD Act
  3. Dodd-Frank Act
  4. The Consumer Financial Protection Bureau (CFPB)
  5. Recent regulatory changes/initiatives to help
  6. Using research to inform regulation
  7. Summary
  8. Questions

The CARD Act
  • Signed into law May 2009
  • Most provisions took effect February 22nd, 2010
  • Arose from perception that certain practices in
    the credit card industry were not fair and
    transparent to the consumer
  • Curtailed many credit card fees and practices

The CARD Act
  • Specific provisions of the CARD Act
  • CC company must send you a notice 45 days before
    they can increase your interest rate change fees
    (annual fees, cash advance fees, and late fees)
    make significant changes to the terms of your
  • Improved disclosure of costs of making minimum
    payment, interest paid, etc
  • Over-limit transactions are now opt-in and only
    one fee per billing cycle can be imposed
  • Cap on card fees at 25 of initial credit limit
  • Under age 21 need to show proof of ability to pay
    or need co-signer

The CARD Act
  • Specific provisions of the CARD Act (continued)
  • Standard payment dates and times (i.e. minimum
    21 days between statement date and payment due
    due date same day each month payment cut-off
    time 5pm or later on due date if payment day
    falls on a weekend or holiday due next business
  • Any payment above minimum must go to highest
    interest balance first
  • Banned double cycle billing (We couldnt figure
    out how to explain that to consumers)
  • Late payment fee cap of 25 or your minimum
    payment, whichever is less
  • No inactivity fees
  • Interest rate fixed for first 12 months unless
    adjustable rate

Consequences of CARD Act
  • Credit card companies responded by
  • Making nearly all credit cards variable rate
  • Increasing minimum payments to 25
  • Promoting business/professional cards, which were
    not subject to the CARD Act
  • Reintroducing annual fees
  • Minimum finance charges
  • Increased balance transfer fees/foreign
    transaction fees
  • Complaining about lost income
  • Consumers now have protections against many
    questionable practices, lower costs, transparent

Dodd-Frank Act
  • The Wall Street Reform and Consumer Protection
  • 800 page law with hundreds of new rules,
    regulations, mandated reports, agencies,
    oversight, etc.
  • Much of it related to regulation of banks,
    financial institutions, insurers, and other
    systemically important entities, as well as
    financial markets
  • Abolished OTS (dysfunctional regulator of
    IndyMac, AIG, WaMu, etc)
  • Created CFPB

Dodd-Frank Act
  • Dodd-Frank Rules for Mortgage Market
  • Prohibit mortgage originators from receiving
    compensation that varies based on loan terms
    eliminates yield spread premiums (selling
    consumers high cost products)
  • Requiring reasonable ability to repay the loan,
    and that credit decisions be based on verified
    financial resources (should have been done in the
    first place)
  • Define minimum underwriting standards for various
    types of mortgages
  • Limiting pre-payment penalties
  • Adding new mortgage disclosures
  • Define Qualified Residential Mortgage (banks can
    securitize without holding 5)

Dodd-Frank Act
  • General consumer related rules
  • Limit debit interchange fees (Durbin amendment)
  • Right to obtain credit score if it negatively
    affects them in a financial transaction or hiring
  • Increases deposit insurance from 100,000 to
    250,000 for each account
  • Improve disclosures for remittances

Durbin amendment
  • Federal Reserve charged with setting debit
    interchange fees that are reasonable and
    proportional to the cost of processing debit
  • Proposed limit of 0.12 down from average 0.44
    for banks over 10 billion in assets
  • Not clear can have higher price for smaller
  • May increase in final rule
  • Expected to cost banks about 12 billion in fees
    each year
  • Either transferred to retailers or consumers (or
    both) through lower costs/prices
  • Recent attempts to delay Durbin defeated in
    Senate, now on to courts

Dodd-Frank Act
  • Effect on consumers-mortgage market
  • Unclear what the implications are in the mortgage
    market since private market barely functioning
  • Long-term may limit availability of mortgages to
    high-risk consumers raise interest rates for all
  • Effectively bans balloon payment mortgages,
    restricts availability of interest only and
    negative amortization loans (need cash on hand to
    pay off balloon to qualify, loans underwritten
    using worst-case-scenario assumptions, or even
    worse than worst case)
  • Designation of qualified mortgages (those for
    which banks do not need to have skin in the
    game of 5)

Dodd-Frank Act
  • Effect on consumers-banking
  • Debit interchange fee cap most significant
  • Banks will seek to recoup lost revenue through
    account maintenance fees, reduced or eliminated
    debit rewards, etc
  • Major effect on consumers comes through the new
    role of the CFPB in regulating financial

The Consumer Financial Protection Bureau
  • Created as the regulator whos primary emphasis
    is protecting the consumer
  • Consolidates consumer protection functions of
    numerous other regulators under one roof
  • Tasked with monitoring most aspects of the
    consumer financial market for unfair, deceptive,
    or abusive products and services
  • Payday loans, check cashers, money transfer
    companies, etc
  • Has significant authority to regulate many
    aspects of the consumer financial market

The Consumer Financial Protection Bureau
  • Also has primary responsibility for educating
    consumers about financial issues and receiving
    consumer complaints about financial products
  • Has branch dedicated to financial
    literacy/financial education
  • Has branches specifically focused on the issues
    facing students older Americans and service
  • Is required to launch a consumer complaints
    hotline on July 21st, 2011 and attempt to resolve
    these complaints

The Consumer Financial Protection Bureau
The Consumer Financial Protection Bureau
  • Key staff
  • Director has yet to be named
  • Raj Date heads Research, Markets, and Regulations
  • Gail Hillebrand heads Consumer Education and
    Engagement Division
  • Holly Petraeus Assistant Director for Service
    Member Affairs
  • Sendhil Mullainathan Assistant Director for
  • Richard Cordray, Assistant Director for
  • Patricia McCoy, Assistant Director for Mortgage
    and Home Equity Markets
  • Zixta Martinez, Assistant Director for Community

The Consumer Financial Protection Bureau
  • Off to rocky start
  • Many key staff have yet to be named
  • Unclear that a director will be in place by July
    21st (only option recess appointment assuming
    Republicans recess)
  • Limits ability of CFPB to write certain
    regulations and supervise certain types of
    financial services institutions
  • Agency is political flash pointpush to change
    from director to board subject it to
    appropriations (now funded by Fed) allow FSOC to
    veto rules/regulations with majority vote
    (instead of 2/3rds)

The Consumer Financial Protection Bureau
  • Short-term implications
  • Other agencies (Fed) getting out of financial
    educationextent of efforts unlikely to be fully
    replicated anytime soon
  • Delays in implementation of various regulations
  • Long-term implication
  • Uncertain future for CFPB
  • If subject to appropriations may be unable to
    fulfill all its duties (think SEC)
  • Senate approval of any director highly unlikely
  • If Obama loses in 2012 may be significantly

The Consumer Financial Protection Bureau
  • Implications for consumers
  • Wont have the strong cop on the beat
    envisioned by consumer advocates
  • Products that were expected to be regulated may
    not be due to lack of a director
  • Agency seems intent on research and testing
    driven disclosures, so likely to improve
    disclosures (clear, concise, useful)
  • Consolidation of TILA/RESPA disclosures for

Other Recent Regulatory Changes for Consumers
  • Overdraft fees on checking accounts
  • Federal Reserve issued new rules that limited
    banks ability to charge consumers overdraft fees
    on ATM and debit transactions
  • Overdraft now an opt-in rather than opt-out (or
    no choice) account feature
  • Consumer can cancel (or opt-in) anytime
  • Doesnt apply to checks and direct-debits

  • Consumer Testing

Using Research to Inform Rules Regs
  • Many of our consumer financial protections rely
    on disclosures to consumers so that they can make
    the optimal decision for themselves
  • In the past many such forms were designed by
    lawyers with little input from consumers
  • However, more recently extensive consumer testing
    has become the norm for revising existing
    disclosures or creating new ones
  • Now mandated by Dodd-Frank

The Situation
  • Exposure ? Attention ? Comprehension ? Memory ?
    Decision making
  • Consumers dont read disclosures
  • Consumers dont understand what theyre reading
  • Disclosures that are not read or cannot be
    understood are not disclosures.

The Constraints
  • Limited flexibility
  • Statute and regulations requirements
  • e.g. opt in vs opt out
  • Not starting with a blank sheet
  • What consumers want vs what consumers need

The Goal
  • What do we want consumers to do or to know after
    reading this disclosure?
  • Shopping?
  • Make a decision?
  • Do something?
  • Understand risks?

The Means to the End
  • Consumer testing
  • Focus groups
  • One-on-one cognitive interviews
  • Usability interviews
  • On-line evaluation
  • Quantitative validation studies
  • In-person
  • On-line

  • The Consumer Testing Process

What is Consumer Testing?
  • Government agencies are increasingly using
    consumer testing to design and validate
  • Agencies generally test model forms to ensure
    that they work for consumers
  • Once released, model disclosure forms represent a
    safe harbor for institutions

Goals of Consumer Testing
  • The Dodd-Frank Act requires that every new model
    form is tested with consumers to ensure that it
  • (A) uses plain language comprehensible to
  • (B) contains a clear format and design, such as
    an easily readable type font and
  • (C) succinctly explains the information that must
    be communicated to the consumer.
  • Testing also ensures that disclosures can be
    effectively used to make decisions

Three Strategies Used in Testing
  • Focus Groups Discussion sessions held with 8-12
  • Good for exploratory questions, brainstorming,
    gathering ideas or info about consumer attitudes
    and behavior
  • - Not ideal for in-depth analysis of how
    consumers read a document or whether they
    understand the content

Three Strategies Used in Testing
  • In-Depth Interviews Interviews conducted with
    one (or two) people where they are shown
  • Allow interviewer to measure understanding of
    a document, and probe areas of confusion
  • - Do not produce quantitative, statistically
    significant data

Three Strategies Used in Testing
  • Large-Scale Experimental Tests Shorter
    interviews done with large numbers of people
  • Provide precise and definitive answers to
    specific questions
  • - Can only answer very specific questions

Structure of In-Depth Interviews
  • Interviews are usually 60-90 minutes long
  • One round of cognitive interviews often
    represents feedback from 7-10 people
  • If testing is conducted rigorously, that number
    is sufficient to detect most usability problems

Types of Interview Questions
  • Observational (think-aloud)
  • Review this document just as you normally would,
    and as you do tell me what you are thinking.
  • Comprehension
  • If you used this card to buy something at a
    store, what interest rate would you be charged?

Types of Interview Questions
  • Use in Decision-Making
  • Look at these two mortgage loan offers. Which
    of the two loans would you choose, and why?
  • Preference
  • Which of these two forms do you think is clearer
    and easier to read?

Iterative Rounds of Testing
  • Testing is usually an iterative process
  • Draft form is developed
  • Form is tested with consumers
  • Based on findings, form is revised
  • Revised form is tested again, etc.
  • Eventually, form is finalized
  • Number of iterative rounds can vary
  • Timeline can vary from one month to several years

General Findings from Testing
  • Consumers dont read disclosures carefully
  • Need to highlight key pieces of information
  • Adding more information can decrease
  • Disclosures often must serve consumers with
    different needs
  • e.g., More vs. less savvy mortgage borrowers

General Findings from Testing
  • Plain language makes a difference
  • Finance charge ? Fees and interest
  • Default rate ? Penalty rate
  • Disclosures dont always work
  • Sometimes it proves impossible to explain things
    to consumers, even using plain language

  • Use of Consumer Testing

43 knowbeforeyouowe/
Evolution of the Privacy Notice
Evolution of the Privacy Notice
Evolution of the Privacy Notice
Evolution of the Privacy Notice
Evolution of the Privacy Notice
Evolution of the Privacy Notice
Testing Considerations
  • Language/word choice
  • Plain language
  • Meaningful language
  • Design testing
  • Part to whole
  • Frame (e.g. Why, What, How)
  • Usability testing
  • Understand content
  • Validation testing does it work for general
  • Decisions consistent with preferences

The Results
  • Identifying what works
  • Can consumers meet the goal for the disclosure?
  • Addressing what does not work
  • Identify alternatives e.g. modify regulations

The Issues
  • Transparency
  • Iterative drafts vs final drafts
  • Reports on testing
  • Interpretation
  • Can you read the results differently?

Credit Cards
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Privacy Notices
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Using Research to Inform Rules Regs
  • Can expect much more consumer, consumer advocate,
    and industry input into the design of future
  • CFPB has also promised to be data driven in its
    design of rules and regulations and in their
    enforcement of these rules
  • Created separate research sections for
    households, firms, consumer testing and fair
  • Federal Reserve has long been research centric,
    but is now expanding its consumer financial
    research unit to include ongoing monitoring of
    the consumer financial market

  • Financial crisis and its impact on consumers
    prompted numerous laws and regulations to protect
  • These changes will have both positive and
    negative effects on consumers
  • Always unintended consequences
  • Creation of the CFPB potentially represents a
    positive advancement in consumer protection
  • Need to get it working first
  • Research and testing will be central to the
    development of new rules and regulations

Thank You
  • Contact Information
  • Maximilian D. SchmeiserEconomistConsumer
    Education Research SectionDivision of Consumer
    Community AffairsFederal Reserve Board of
    GovernorsPhone 202-728-5882Fax