The Green Sheet Online Edition
March 23, 2009 • Issue 09:03:02
Insider's report on payments
Regulation, deregulation, self-regulation
Recently, I came across a book I reviewed in 1988, titled Where Deregulation Went Wrong: A Look at the Causes Behind Savings and Loan Failures in the 1980s. Norman Strunk, co-author of the book, was a retired President of the U.S. League of Savings Institutions, a trade association that was merged out of existence in 1992 just shy of its 100th anniversary. Fred Case, the book's other author, was a professor of economics at UCLA.
The book presents arguments that are topical, even today. As I began to peruse its pages again, however, I had a "wow" moment: I realized large numbers of folks in financial services today have little or no first-hand memory of the savings and loan (S&L) crisis of the 1980s.
As of early 2008, the average career of a Wall Street chief executive officer was just over 25 years, according to Niall Ferguson, a renowned historian and author of The Ascent of Money: A Financial History of the World.
The CEOs of what last year were the biggest investment banks in the country weren't even in the mix in 1980, when the U.S. Congress passed a massive deregulation package that eliminated deposit interest rates and broadened investment powers of S&Ls (which until then were pretty much limited to making home loans).
The operative word here, of course, is "were." Shares of Citigroup Inc., one of the institutions Ferguson included in his analysis, slipped below $1 in March 2009.
Moments like these make me come to grips with the fact that I'm an old-timer, having spent now more than 30 years writing about the payments industry and financial services. So, for what it's worth, this is what I have to say about where financial services deregulation went wrong: Like all economic theories, deregulation failed to take adequate account of common human emotions, like greed.
Strunk and Case lay some of the blame for the S&L debacle on greed, as well, suggesting fraud and insider transactions accounted for 20 percent of S&L failures "and a greater percentage of the dollar losses" born by the Federal Thrift Insurance Fund - the S&L industry's Federal Deposit Insurance Corp.
But even many of the losses reported during the S&L emergency pale in comparison to some of the financial frauds that have been uncovered recently. There was the reported fraud in which Bernard Madoff, once considered an elder-statesman on Wall Street, admitted to bilking investors of at least $50 billion.
At about the same time, two separate scams involving Texas millionaires were reported. They were accused of defrauding investors out of about another $15 billion (one involving bogus certificates of deposit; the other currency trading).
Social experiments have shown that we humans are risk-takers, especially when financial rewards are attached. When risk is institutionalized, however, it's easy to lose sight of the individual consequences of risk taking. That's where oversight comes in.
But oversight, in the form of traditional regulation, isn't always a workable solution either, as evidenced by the S&L crisis and the subprime meltdown.
The best type of oversight demands informed engagement between industry and government. We already have a model for this in the payments sphere; it works pretty well, but may need some adjusting for a changing market environment.
NACHA - The Electronic Payments Association provides oversight related to automated clearing house payments, working in concert with the Federal Reserve, which also competes with some NACHA members as a processor of last resort for these electronic payments, as well as checks.
When MasterCard Worldwide and Visa Inc. were card associations, they assumed a role similar to that of NACHA. However, now that MasterCard and Visa are public companies, it may be time to reassess the appropriateness of that role.
Maybe I'm missing something, but I just can't wrap my head around the notion of public companies imposing fines on other public companies over compliance issues.
I raise these topics because I think it's important that this industry engage in a reasoned dialogue about oversight and regulation. The wheels of government are already in motion.
At least 44 states have implemented laws involving financial data breaches of the sort that occurred recently at two major acquiring organizations - Heartland Payment Systems Inc. and RBS WorldPay. Each of these states has established its own customer notification or card re-issuance requirements. Clearly, a uniform national standard is preferable to 50 individual jurisdictional requirements.
Meanwhile, Senators Chris Dodd, D-Conn., and Carl Levin, D-Mich., have introduced legislation in the U.S. Senate (SB 414) which, in addition to establishing consumer protections against "abusive credit card practices," would have the U.S. Government Accountability Office study the impact of interchange fees on consumers and merchants.
Similar legislation has also been introduced in the House (HR 627).
Dodd, Chairman of the Senate Committee on Banking Housing and Urban Affairs, has been a long-time champion of federal consumer protection legislation.
During a February 2009 hearing on the legislation, Dodd was reported as saying he has concerns that interchange creates a situation not unlike what occurred in the mortgage market.
He said he is concerned interchange places too much emphasis on driving transaction numbers when greater attention should be paid to the creditworthiness of card users, according to a report in NACS Online, a publication of the National Association of Convenience Stores. The NACS has been a vocal opponent of interchange.
It's time for issuers, acquirers and the card brands to come to terms with the notion that interchange is on the government's radar and that legislated changes are a very real possibility. It's time to take a proactive stand and come to a consensus about change.
The traditional interchange model has served this industry well for decades, but just like payment products and services have matured and changed over the years, it's time for updated card-pricing models.
The industry has an opportunity to get out in front of this, perhaps taking a cue from NACHA and the Fed, developing an industry-government approach to merchant acquiring oversight.
I'm not sure how or if it could work, but it's worth contemplating. And it certainly would be more productive than just digging in our heels and vowing to fight what might appear as senseless regulation.
Patti Murphy is Senior Editor of The Green Sheet and President of The Takoma Group. E-mail her at firstname.lastname@example.org.
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