Consumer Protection Laws and Regulations: Cost and Benefit Trade-offs

November 20, 2017
By  Julie L Stackhouse

BSR November

This post is part of a series titled “Supervising Our Nation’s Financial Institutions.” The series, written by Julie Stackhouse, executive vice president and officer-in-charge of supervision at the St. Louis Federal Reserve, is expected to appear at least once each month throughout 2017.

Consumer financial protection has been in the spotlight recently, with the well-publicized decision by Congress to overturn a regulation that had been finalized by the Consumer Financial Protection Bureau in July. The rule would have prevented financial firms from requiring customers to use the arbitration process to resolve disputes, rather than participate in class-action lawsuits. Congressional action on this so-called “mandatory arbitration clause” has been touted by some as a victory for banks and a loss for consumers.

New consumer laws and regulations tend to provoke controversy. On the one hand, consumer protections are important to minimize egregious behavior by financial firms when they deal with consumers who may not fully understand a credit or deposit product or realize their legal rights.

On the other hand, new regulations—including consumer protection rules—usually have consequences for the availability or cost of these products. For that reason, financial institutions often express concern with the advent of new regulations.

Impact of Consumer Financial Regulations

Calculating the benefits and costs of consumer financial regulations—or any regulations, for that matter—is not easy. Financial institutions do not routinely report expense data that tie directly into the implementation of individual regulations, although survey data make it clear that the cost of regulatory compliance hits the smallest financial institutions the hardest, as seen in the table below.

Compliance Expenses as a Percentage of Noninterest Expenses
U.S. Community Banks, 2014-2016
Asset Size 2014 2015 2016
Less Than $100 Million 7.67% 11.77% 10.44%
$100 Million to $250 Million 5.55% 8.12% 7.85%
$250 Million to $500 Million 4.91% 7.02% 7.20%
$500 Million to $1 Billion 3.78% 5.83% 5.64%
$1 Billion to $10 Billion 2.54% 6.03% 5.98%
SOURCE: Author's calculations based on data presented at the 2017 Community Banking Research and Policy Conference
Federal Reserve Bank of St. Louis

Institutions also do not report whether they have stopped offering a product or service to some or all consumers or businesses because of an increase in compliance costs. Likewise, there is no definitive way to quantify the cost or inconvenience to consumers or businesses when a financial product is discontinued by a local institution or pricing is adjusted to reflect inherent compliance costs.

Importance of Education and Incentives

Even with protections, regulation alone may not be enough to prevent consumers from reaching beyond their means, especially when emergencies occur. A combination of financial education throughout school-age years and incentives to save from a very early age may well hold the greatest promise for “financial capability,” or your ability to act on financial knowledge and a product offering. Albeit aspirational, the idea of financially capable consumers offers an alternative to growing regulation.

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This blog offers commentary, analysis and data from our economists and experts. Views expressed are not necessarily those of the St. Louis Fed or Federal Reserve System.

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