The field of behavioral economics was unfairly tainted in the founding days of the Consumer Financial Protection Bureau, thanks largely to a push to use government power to restrict consumers’ financial choices.
Certainly insights from behavioral economics can be used to push consumers toward making certain choices, but that’s not the main goal of behavioral econ. Its primary aim is simply to better understand how and why people make decisions. Setting the behavioral field’s blemished reputation aside, it should be obvious that increasing our understanding of consumer behavior is a laudable goal for economists.
That was the main point of most of the participants in last week’s CFPB symposium on behavioral economics. The symposium was part of the bureau’s broader effort to engage experts in various fields on legal and policy issues. This effort is also a worthy goal, as is the agency’s bid to reassure the public that it does not want to overstep its authority and regulate markets simply because it can.
As CFPB Director Kathy Kraninger told participants: “Most fundamentally, the bureau is guided by the objectives Congress set forth in our statute: ensuring that all consumers have access to markets for consumer financial products and services that are fair, transparent, and competitive.”
Congress gave the bureau a great deal of discretion, so it is refreshing to hear the director say:
“To effectively achieve intended policy outcomes, agencies should be able to articulate good reasons for what they do, and those reasons should rest on solid evidence. This includes whether the benefits of the proposed action justify the costs. Indeed, to formulate good policy a substantive analysis and estimation of costs and benefits—both direct and indirect — must be conducted.”
Deputy Director Brian Johnson added:
“When articulating and implementing public policy, there is general agreement that a primary motivation for regulation is to address market failure. And it cannot be stressed enough that demonstrating a market failure requires more than just general notions of incomplete or asymmetric information.”
Johnson’s words also highlight why the behavioral econ symposium is such a positive development.
Some critics of the Bureau have long worried that the agency might use behavioral econ principles to “nudge” consumers toward certain choices, much like a central planner would in a command-and-control economy. And they have had good reason to be anxious.
Oren Bar-Gil and Elizabeth Warren, two architects of the bureau, argued that federal bureaucrats should nudge consumers because they suffer from “cognitive limitations” and because their “learning is imperfect.” But this view is not inherent to behavioral economics per se. As Indiana University’s Michael Baye explains in his symposium paper, “Effective consumer protection requires evidence-based policy and enforcement decisions. It is not sufficient to simply assume or assert that consumers suffer from a behavioral bias.”
Regardless, the idea that federal bureaucrats should limit consumers’ choices to protect people from themselves is much more expansive than the traditional view of consumer protection. It also ignores that government employees (and members of Congress) are just as imperfect as other human beings.
Fortunately, the current leadership of the Bureau recognizes these issues. In his speech, Johnson noted that:
“Indeed, humans by our nature are imperfect so it should not come as a shock to anyone that markets are imperfect. But we should also not forget that governments are made up of humans as well, who are equally imperfect and perhaps have a few of their own biases. So, in an imperfect world, we need to critically examine both market and governmental solutions to identify which is best for consumers.”
It is too bad that Congress created an agency where future leaders might reject this approach. Hopefully, the symposium will be a first step toward engraining this view in the bureaucratic culture at the CFPB so that future directors will not be able to use the agency to do more harm than good.
Several of the scholars at the symposium provided excellent examples of exactly how behavioral econ could be misused to do exactly that. Harvard’s Brigitte Madrian, for instance, outlined “a framework for thinking about the psychology of behavior change in the context of market failures.” Her paper provides many details, culminating with this summary on page 683:
“The interventions enumerated in this article vary in their potential to do harm. Some seem unlikely candidates to reduce welfare for anyone: providing individualized information, giving feedback about the relationship between behavior and observed outcomes (e.g., energy consumption), and presenting attributes in a way that facilitates informed decision making. Others have a greater potential for harm: changing the default option, framing, introducing social influence, and providing commitment devices. When interventions have a heterogeneous impact, and there is potential for harm, the benefits to individuals who are made better off must be weighed against the costs to those who are harmed in determining which interventions have the greatest impact on overall social welfare.”
In other words, the bureau can use behavioral insights to help ensure consumers are able to make informed choices, or they can misuse those insights to take choices away from people. When a government agency follows the latter course, preventing people from making choices, the regulatory framework is ultimately incompatible with a free society.
As Johnson noted, when the government takes this approach, “It does not politely request that firms change their behavior or seek to convince firms of the propriety of the intervention. It is a legal command, backed by force or the threat of it.”
When private firms give consumers choices, people can choose to avoid certain options. That opportunity simply does not exist when, for example, the federal government insists that people can only have one type of mortgage. This restrictive view of consumer protection excludes people from markets and allows federal officials to control people’s basic economic decisions. It is incompatible with the free enterprise system, the single most effective killer of poverty known to man.
Fortunately, the bureau’s current leadership is rejecting this autocratic concept of consumer protection. Instead, they are focusing on the two kinds of consumer protection that reinforce markets: (1) requiring disclosures by businesses that inform consumers about their products and services; and, (2) combatting unlawful acts or practices by market participants, especially those that are deceptive or discriminatory.
To say that the current CFPB leadership’s approach to its responsibilities is a positive development is a huge understatement. They deserve praise for taking this principled approach.
The only problem is that Congress created an agency which, under a different leadership, could move in a completely different direction. The truth is, America did not need a new government agency—it already had several protecting consumers, chief of which was the Federal Trade Commission (FTC). If anyone in Congress wants to fix this mistake, they should check out Janis Pappalardo’s symposium paper.
Pappalardo has spent several decades at the FTC’s Bureau of Economics, Division of Consumer Protection, where she (among other accomplishments) received the FTC’s Paul Rand Dixon award for her work on consumer information in the mortgage market and served on a White House Task Force on Smart Disclosure.
The Division of Consumer Protection has been around for 40 years, and it is comprised of over 25 economists who review virtually all consumer protection matters before the FTC. The FTC has already demonstrated that it can handle consumer protection, even when it comes to financial markets.
All Congress has to do is transfer the CFPB’s core consumer protection functions—the one’s that it transferred to the Bureau in the first place, not the broad, ill-defined, discretionary ones—to the Federal Trade Commission, the agency whose mission is protecting America’s consumers. Simple.
This piece originally appeared on Forbes https://www.forbes.com/sites/norbertmichel/2019/10/08/the-cfpb-behavioral-econ-symposium-is-another-good-sign-for-consumers/#1cb094f028b2