Will banks raise APRs if stripped of legal shield provided by arbitration?
CFPB director disputes Currency chief's claim that rule barring arbitration will raise interest rates
Expert on consumer credit laws and regulations.
Will banks raise interest rates on credit cards and other products if they lose a shield from customers’ class-action lawsuits?
Yes, said Keith Noreika, the acting comptroller of the currency, a top U.S. bank regulator. In fact, he said in a recent opinion piece on TheHill.com, there’s a chance rates could go up as much as 3.4 percentage points. That’s if a new federal rule takes effect that requires banks to drop certain mandatory arbitration language in their customer contracts.
Baloney, replied Richard Cordray, director of the U.S. Consumer Financial Protection Bureau, which wrote the rule. Several big credit card issuers already follow the rule, and they’re not charging 3.4 percent more than banks that don’t, Cordray said.
“This claim is demonstrably bogus,” Cordray wrote in his Oct. 16 essay on TheHill.com. Among the top credit card issuers, Bank of America, Capital One and Chase don’t use the “class-action waiver” language that the rule forbids.
Who’s right? Former CFPB Senior Economist Alexei Alexandrov, the author of the research Noreika cited, said Noreika is wrong. Noreika uses a measurement of statistical significance called a “p-value” as a prediction, Alexandrov said.
That’s not good practice, Alexandrov said, and he cited a paper by the American Statistical Association to back him up. Using Noreika’s logic, subprime customers studied in his research might actually see lower credit costs if their banks were exposed to more lawsuits.
However, the research can’t rule out that banks won’t raise rates and fees, Alexadandrov and another economist agreed.
“Both parties are getting carried away where the evidence is weak,” said Bruce Meyer, economics professor at the University of Chicago.
|WHY YOU SHOULD CARE ABOUT THE ARBITRATION DEBATE|
|WHY YOU SHOULD CARE ABOUT THE ARBITRATION DEBATE|
What’s at stake
The total cost of credit, including fees could go up for some card users by at most $1 a year per cardholder, based on CFPB's estimate of additional legal costs banks would face. That’s based on total estimated costs of $1 billion a year across the financial industry covered by the rule. And it’s not certain banks would pass the higher costs on to customers.
“Any argument grounded in basic facts would be about how many cents more the average consumer will pay their credit card issuer per year, if at all,” Alexandrov said in an email interview. He stressed that he’s speaking for himself, not the CFPB or Amazon, where he currently works as senior economist.
More important, the cost estimate doesn’t count the benefits that bank customers would see from their newfound access to court. In addition to yielding direct payments to consumers, lawsuits in open court expose anti-consumer practices that can be kept under wraps in private arbitration panels.
Arbitration in the spotlight
The public feud by two top regulators has drawn attention to the arcane topic of forced arbitration clauses and their class-action waivers. Although they’re obscured in the fine print of contracts, the clauses have a big effect on consumers.
In the credit card market, about 53 percent of balances are covered by arbitration clauses, generally meaning those customers are blocked from court. The Dodd-Frank Act that created the CFPB in 2010 gave it a mandate to study the effects of arbitration on consumers, and write a regulation if necessary to protect them.
Begun as a way to settle disputes between businesses, arbitration clauses have become common in business contracts with customers.
The CFPB’s arbitration study in 2015 found that, over a five-year period, court class-action payments totaled $1.1 billion to 34 million consumers. The 314 arbitration decisions studied resulted in 78 payments or credits to consumers totaling less than $400,000, while companies won $2.8 million.
The CFPB finalized its arbitration rule in July, setting an effective date in March 2018. It requires banks and other lenders and financial services to drop class-action waivers from their arbitration requirements with new customers.
This is the fine print that prevents you from joining or bringing a group lawsuit. Financial companies can still require customers to use arbitration in individual disputes, instead of going to court. Agreements with existing customers wouldn’t be affected.
In addition to the fight in Congress, the U.S. Chamber of Commerce, American Bankers Association and other business groups filed a lawsuit in federal court in Texas in September to block the arbitration rule. The lawsuit claims the CFPB’s study is flawed and its structure is unconstitutional, an issue now facing the U.S. Court of Appeals for the District of Columbia Circuit.
After their dueling op-ed pieces, Noreika and Cordray backed up their arguments in letters to members of the Senate Banking Committee last week.
As the deadline to repeal the rule approaches, consumer advocates are stepping up their campaign to save it on social media under the hashtag #RipoffClause. Advocate groups including Americans for Financial Reform point out that Wells Fargo and Equifax used arbitration fine print to shield themselves from consumers they harmed.
Banking groups, selecting a few statistics from CFPB research, claim that consumers actually win more from arbitration than in court, on average. However, that analysis omits the CFPB’s conclusion that relatively few consumers win anything in arbitration – and lose more than they win.
The Treasury Department on Monday published a report critical of the CFPB rule. It summarizes the OCC's analysis and repeats the OCC's finding of possibly higher credit costs for consumers.
Alexandrov’s study looked at two groups of credit card issuers. One group dropped their arbitration requirements in 2009, opening them up to more lawsuits. The other group kept their arbitration requirements, shielding them from lawsuits. Alexandrov looked at the total cost of credit – rates and fees – that each group charged new customers.
His result: There was not a strong enough link between credit costs and arbitration requirements to conclude there is any higher cost at non-arbitration banks. However, you can’t say for sure that there isn’t a higher cost either.
The measure of statistical significance was 88 percent – below the standard of 95 percent – to conclude the link exists. However, the 88 percent value doesn’t mean – as Noreika claimed – that there’s an 88 percent chance of a link, Alexandrov said.
“P values do not measure the probability that the studied hypothesis is true,” Alexandrov said in an email, quoting the American Statistical Association’s paper on the matter.
Meyer, the University of Chicago economist, disagreed, saying that P values can be interpreted the way Noreika did. However, he warned not to give much credence to the chance of higher card rates, given the difficulty of isolating the effect of the arbitration from other possible factors. “If something else is omittted that impacts the cost of credit, the findings are off,” Meyer said.
Banks silent on costs
What do banks say?
Bank industry groups generally oppose the CFPB’s arbitration rule. However, they don’t argue it will force them to charge higher rates and fees to their customers.
CreditCards.com asked seven major credit card issuers whether regulating arbitration would mean higher rates and fees, but none would comment.
Banks weren’t more forthcoming when Sen. Elizabeth Warren, D-Mass., asked them the same question in August. Warren asked, among other questions, what impact the arbitration rule would have on customers and on company profits.
Of 16 responses, none said that their customers would pay more for services or profits would take a hit. One, BB&T, predicted costs would rise for financial services in general, hurting low-income customers the most.
Several others said they allow customers to opt out of arbitration at the beginning of the contract, and argued that arbitration solves disputes more efficiently than court.
Four said they don’t require arbitration – Ally, Bank of America, Capital One and TD Bank. Chase uses arbitration for some accounts, but not for cards.
At Bank of America, dropping arbitration requirements in 2009 “has not materially impacted our mission to provide suitable financial products and services to improve the financial lives of those we serve,” John Collingwood, the bank’s director of federal government affairs, wrote in reply to Sen. Warren.
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