Making Outcomes Matter: An Immodest Proposal for a New Consumer Financial Regulatory Paradigm

Abstract

American consumers today access financial services in fragmented, product-specific marketplaces in which each provider optimizes its consumer relationships based on profitability. Providers regularly exploit information advantages, geographical proximity, behavioral biases, high “shopping costs” and other asymmetries. Consumers, under pressure to make quick personal decisions, frequently make suboptimal or affirmatively damaging choices that benefit the provider and constrain the consumers’ options in follow-on decisions. The responsibility for managing outcomes in consumer financial services is — absent the most egregious abuse — left in the hands of the individual consumer. These practices arguably have led to suboptimal outcomes for all consumers and high levels of financial insecurity among the most vulnerable populations. In the face of these problems, state and federal governments have, over time, adopted a variety of statutory and regulatory regimes intended to protect consumers. The resulting system of consumer financial regulation has had an inconsistent record in advancing the interests of consumers, particularly more vulnerable lower-income consumers, despite the existence of large bodies of law and regulation, extensive consumer disclosure, the enforcement efforts of dozens of state and federal regulatory agencies and an enormous investment in regulatory compliance by financial services providers. The system has historically operated in a data vacuum where regulators had little insight into the results of product usage, relying instead on disclosure-based regimes intended to inform consumer choice regarding product pricing and terms, narrow proscriptions regarding provider practices that impede informed decision-making and limited interventions regarding pricing or fees. This situation has begun to change. Digitization and the ongoing “big data” revolution, coupled with the emergence of new measures of “financial health” outcomes, now make it possible to analyze the impact on individuals of the use of financial services. This, in turn, may allow historic regulatory regimes to be reimagined using these new data capabilities. Over time, a regulatory framework based upon outcomes measurement has the potential to supplement and ultimately replace the current system. Something similar has begun to occur in the health care field, where insurers (and the state and federal governments that administer Medicare and Medicaid) represent powerful payor interests that are largely aligned with patient wellbeing. These health care market participants now use outcomes-based data to guide a wide range of medical practices and clinical decisions on the part of hospitals, physicians and medical service providers. Increasingly, a variety of standardized and publicly disclosed metrics enable payors to reward providers for lowering costs and improving patient outcomes. Drawing from the health care example, we advance a three-stage proposal to better align financial services provider interests with improved customer outcomes, through data analysis, public disclosure and market-based regulatory intervention. The proposal would introduce into the financial services marketplace a form of “outcomes-based regulation” that has been advanced elsewhere. Implementation of the new framework would not be an immediate substitute for existing consumer financial protection law; but by generating an empirical basis for identifying harms and benefits correlated with particular practices or product features, it would for the first time allow policymakers to measure the impact of statutory and regulatory interventions, determine product/practice “appropriateness” for particular consumer circumstances, and tailor policies to remedy harms incurred by users of particular products and/or providers. When fully tested and implemented, the three-stage process should shift provider incentives meaningfully towards improved customer outcomes, leading to a gradual shift away from prescriptive and disclosure-based regulation to a “learning” system that is principles-based, data-driven, transparent and leverages market mechanisms to deliver improved financial health for consumers.