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Author: Jennifer Taub

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Now What? Applying the Economic Dynamic Approach to Financial Reform

Echoing the earlier commentators, I commend Professor David Driesen on his important contribution to legal scholarship and public policy with The Economic Dynamics of Law. I am hopeful that the economic dynamic approach can be used in the academy and on the front lines of financial reform.

As Driesen observes, the centerpiece of financial reform in the U.S., the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 (Dodd-Frank) “mandates only minimal structural reform.” Moreover, efforts persist to rollback, dilute and delay the modest improvements accomplished through Dodd-Frank. The result has been to emphasize bank-collapse intervention tools without sufficient focus on prevention. Consider that this modest reform effort began while the 2008 crisis was still fresh in mind. As memories fade and passions cool, the ability to enact structural reform diminishes.

And, this is exactly where use of an economic dynamic analysis is needed. Let me present just one real-life fact pattern. This coming Tuesday morning, the U.S. House of Representatives Committee on Financial Services has scheduled a hearing entitled, “Who’s In Your Wallet: Examining How Washington Red Tape Impairs Economic Freedom.” The invited witnesses are the general counsels of five federal financial agencies, including the Consumer Financial Protection Bureau, the Federal Deposit Insurance Corporation, the Federal Reserve Board, the National Credit Union Association, and the Office of the Comptroller of the Currency. In the memo announcing the hearing the following agenda is described:

“Among other things, the hearing will examine how federal financial regulatory agencies evaluate the costs and benefits to consumers of their regulatory, enforcement, and supervisory actions. The Committee will explore whether products or services are no longer being offered to consumers because of agency actions and the steps federal regulators take to measure the impact on consumers if they no longer have access to specific products or services as a result of regulatory action. The Committee will also consider the procedures or standards agencies follow in determining whether to engage in formal rulemaking under the Administrative Procedures Act.”

The intent appears to be to treat as a cost the potential failure to satisfy individual preferences in the present without considering broader costs and harms that particular financial products can create for individuals and the system at large. As Driesen describes in Chapter 2, by emphasizing allocative efficiency, “the law of financial regulation ceases to function as a means of avoiding a depression, and instead becomes thought of as a product of balancing a proposed regulation’s benefits against its costs.”

Consumers may have had preferences for very low-money-down, negatively amortizing mortgages for which there would or could be a payment shock upon recast.  And many did show those preferences (even when the bank in-house marketing studies showed the product had to be pushed on them with minimal disclosure). However such toxic products and others led to millions of foreclosures and bank safety and soundness problems, and ultimately a global financial meltdown.

It will be interesting to see whether the witnesses on Tuesday reject the assumptions underlying how the hearing has been framed and instead apply an economic dynamics approach to their testimony and answers.

 

 

 

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“Unpopular” Contracts and Why They Matter

Professor Lawrence Cunningham knows the law and his audience. With Contracts in the Real World: Stories of Popular Contracts and Why They Matter, he brings contract doctrine to life.  Cunningham concisely, yet colorfully, covers how courts resolve a variety of deals gone wrong. This book is ideal to help students develop an understanding of how the law is used to sort between those bargains that will be enforced and those that will not, as well as what remedies are available when things do not go as the parties to the agreement initially planned.

Contracts in the Real World has considerable range. It starts with a wrecked wedding party, an event few experience though many may fear.  A dispute between a couple and a banquet hall venue results from a regional power outage during the reception. This fact pattern echoes the type of phone call a recent law graduate might receive from an exasperated family member punctuated with the dreaded question —  you’re a lawyer, can we get our money back?  The book provides a sensible explanation of how the wedding dilemma would resolve, and weaves together this type of personal situation with more public, celebrities’ disputes and classic contract decisions. These classic decisions are better appreciated in this fashion, when they are used to explain the outcomes of more modern disputes. For example, Sherwood v. Walker (the fertile cow – mutual mistake case) dating back to 1887 resonates when it is used to analyze a divorce settlement dispute concerning millions of dollars invested with Bernard Madoff’s Ponzi scheme.

What makes the book particularly compelling, is that mixed in with relatable fact patterns and entertaining battles are significant matters of policy. Contracts in the Real World  accomplishes this, for example, when it covers some very unpopular contracts. These include the infamous agreements under which American International Group (AIG) paid out $165 million in cash bonuses to roughly 400 employees. According to the New York Times, among those who received more than $1 million a piece were 73 employees of the AIGFP business unit. This was the same business unit that helped enable the housing bubble and related Financial Crisis of 2008 by providing credit protection (selling credit default swaps) on high-risk mortgage-linked securities. The AIG bonuses were announced in 2009, just months after the US government paid $85 billion for a nearly 80% ownership stake in AIG. This was a part of the $182 billion government commitment to rescue the giant insurance firm when it approached insolvency due, in large part, to its inability to make payments to counterparties on its credit default swaps. Read More