Consumer Law & Policy Blog

Zacks Paper on Whether Contract Design Influences Consumer Behavior

Eric A. Zacks of Wayne State has written Shame, Regret, and Contract Design, forthcoming in Marquette Law Review. Here is the abstract:

This Article examines whether contract design can influence the post-formation behavior of the party that did not prepare the contract. Repeat players that utilize the same contract for many transactions, as is the case for many consumer transactions, would be significantly advantaged if this were true. This Article suggests that several contractual features can be explained in terms of their ability to exploit the cognitive biases of, and to induce particular “advantageous” emotions from, the other party after the contract has been executed. These features may include arbitration provisions, disclosures in capital letter or bold face type, “reliance” language, and language framing possible losses in particular ways. Contracts can encourage us to feel shame, to blame ourselves, to believe that contracts are sacred promises that should be specifically performed, to utilize faulty judgment heuristics when determining contract costs, and to rely on misperceived social norms with respect to challenging or breaching contracts. This may influence us not to breach or challenge an otherwise uneconomical, unconscionable, or illegal contract. Consequently, contract preparers may be able to enjoy the benefits of promises that often would not be realized if the other contracting party were profit-maximizing like the contract preparer.

Paper on The Performance of New Private-Label Mortgage Loan Modifications after 2009

Arthur Acoca of Penn's The Wharton School, Ren S. Essene of the Consumer Financial Protection Bureau, Min Hwang of George Washington's Department of Finance, Jacob Liebschutz of Harvard's Government Department, Patricia A. McCoy of Connecticut, Jessica Russell of the Consumer Financial Protection Bureau, and Susan M. Wachter, also of Wharton have written The Performance of New Private-Label Mortgage Loan Modifications after 2009.  Here's the abstract:

This paper presents summary statistics and a preliminary analysis of the success rate of loan modifications made in 2010 and January 2011 to residential mortgages securitized in private-label residential mortgage-backed securities.  We find that these more recent private-label loan modifications had a higher overall success rate, compared to similar modifications made in earlier years.  Consistent with prior literature, having a fixed-rate mortgage, a prime mortgage, a higher Fair Isaac & Company (FICO) credit score, and/or a lower interest rate at origination were positively correlated with lower redefault rates post-modification.  Borrowers with interest-only and teaser-rate loans performed slightly better than other borrowers after receiving loan modifications.  Similarly, modifications of purchase loans did worse not only than plain vanilla refinance loans, but also worse than debt consolidation and cash out refinance loans.  Modifications of private-label mortgages in the four “sand states” – Arizona, California, Florida, and Nevada – did better than modifications in other parts of the United States, although the difference was small.  Surprisingly, modifications of fully documented loans performed worse, while modified no-documentation loans performed best.  Finally, we confirm that capitalizations of arrears performed worse than interest rate reductions and principal modifications, with the latter appearing to be the most effective.

David Adam Friedman on Micropaternailism

David Adam Friedman of Willamette has written Micropaternalism, forthcoming in the Tulane Law Review. Here is the abstract:

 

In this Article, I have created a theory of “micropaternalism” to capture the essence of a unique regulatory dynamic. As I define it, micropaternalism describes when policymakers paternalistically regulate a narrow area, thereby provoking public debate about the underlying controversial issues addressed by the regulation. The loss of autonomy, even in a narrow zone, can instigate a broad-ranging discussion that ultimately influences social norms.

For example, Mayor Michael Bloomberg’s attempt to limit the portion sizes of sugary drink servings in New York City started a legal fight and a loud social fight about public health and paternalism. The New York City Board of Health enacted a code that covered an extremely narrow piece of the obesity problem, but the public debate took place on a big stage. Discussions about obesity as a public health problem leapt from the policy sphere to the popular sphere. In the long run, the dialogue may have more of an impact on public attitudes and private behavior than the actual regulation — a regulation that may not even prove enforceable. By putting the issue before the public and raising awareness, the debate about overconsumption could potentially reset norms.

Langdon on Underwater Mortgages and Eminent Domain

Joel Langdon of Emory has writen The Importance of a Promise: Underwater Mortgages and a Municipal Rescue Attempt Through Eminent Domain, forthcoming in 45 Urb. L. (Summer 2013). Here's the abstract:

Millions of Americans purchased real estate during the housing bubble of the mid 2000s, when prices reflected a constant upward trend, and real estate appeared to be an ideal investment. When the bubble burst, however, the value of real property plummeted, yet homeowners remain obligated to pay their bubble era mortgage amounts. This has created a situation where many Americans must pay creditors significantly more than the current value of the properties for which they borrowed to purchase. When property values plummet in this way foreclosure rates skyrocket and in a cyclical manner, values continue to drop, crime rates rise, and tax bases and consumer markets whither.

State and federal governments have struggled, with minimal success, to address the issue of excessive debt created by the housing bubble as it continues to mire the economy in a slow and lurching recovery. Most efforts to eliminate debt overhang have been based on incentivizing lenders to forgive and restructure debt in various ways. Unfortunately these incentives have generally not been sufficient, and programs have foundered.

This Article examines an alternative plan to address excessive housing debt through the operation of investor funded use of the governmental power of eminent domain to acquire and restructure debt. This Article argues that this plan has the potential to resolve many of the shortcomings of previous efforts to alleviate debt, but that, as conceived, this plan also has many problems. This Article will identify the primary barriers to the operation of such a plan and thereby indicate how to modify the plan to address those barriers.

Henderson Paper on Mortgage Industry Self-Regulation

M. Todd Henderson of Chicago has written Self-Regulation for the Mortgage Industry. Here's the abstract:

This Article proposes an alternative to direct government regulation of mortgage brokers: self-regulation of the mortgage industry that mimics the arguably successful self-regulation of the securities industry that has occurred over the past two centuries. Although not without its problems, self-regulation of securities brokers operates more efficiently than government regulation. For example, self-regulation allows for industry expertise to be deployed at low cost and is built on trust and reciprocity, which reduce enforcement costs. In addition, self-regulation locates power at its smallest point and encourages efficient resolution of disputes by ensuring commensurable regulatory intervention. Most crucially for the mortgage industry, self-regulation is capable of policing behavior that does not rise to the level of fraud but is nevertheless socially undesirable. This Article explores the reasons why self-regulation can be effective, as well as some of its limitations in the context of securities brokers. It then looks at its potential application to mortgage brokers, comparing the self-regulatory approach with the governmental approach taken by the Dodd-Frank Act and the Consumer Financial Protection Bureau. However effective the federal approach to mortgage industry regulation is likely to be, there are aspects of such regulation that would be better administered by the industry itself, subject, of course, to oversight by the government to protect against the cartelization threat.

Dustin Zacks Paper on Foreclosure Firms

Dustin A. Zacks of King, Nieves & Zacks PLLC has written Robo-Litigation, 60 Cleveland State Law Review 867 (2013).  Here's the abstract:

The recent housing crisis increased demand for attorneys to process foreclosures through state courts. This increase in demand was coupled with a desire for the fastest and cheapest legal services available. As a result, large foreclosure firms designed to handle an enormous number of foreclosure cases quickly and inexpensively evolved and flourished. During their ascendancy, these firms consistently generated complaints about their conduct, including questions about their ethical decision-making and about the veracity of the pleadings and documents they filed. Scholarly literature on the housing crisis, however, is largely devoid of commentary on ethical issues related to increased foreclosures.

This Article tracks the rise and fall of several notorious high volume foreclosure firms and examines the numerous instances of serious misconduct their attorneys and paralegals perpetrated. The Article accordingly examines the curiously muted reaction from state bar associations, judges, and state legislators.

The Article then proceeds to examine how these foreclosure firms differ in makeup from traditional large law firms. Notable characteristics of these foreclosure firms include lenders and servicers’ relentless demand for increased speed and low costs, lack of firm-specific capital at foreclosure law firms, and a factory-like atmosphere of legal practice. The Article concludes with an examination of three policy options to prevent another surge in attorney misconduct: changing ethical rules, improving ethical education, and increasing state bar association funding and authority.

Study Finds That Predatory Lending Regulation Leads to Lower Interest Rates and No Loss of Credit Availability

by Jeff Sovern

Yesterday, I was on a panel at the Annual Meeting of the American Council on Consumer Interests, along with Dr. Yilan Xu, a professor at the University of Illinois in agricultural and consumer economics.  Dr. Xu's talk concerned a natural experiment in Cleveland, Ohio.  Cleveland had enacted an anti-predatory lending ordinance which was later found invalid by the Ohio courts.  Dr. Xu compared mortgage lending in Cleveland before and after the law was invalidated, and also examined similar lending in the Cleveland suburbs that was not subject to the Cleveland law.  She found that after the law was struck down, lenders in Cleveland made more high-price loans, that those loans were 5% more likely to go into foreclosure, and that there was no evidence of credit expansion.  These findings contrast dramatically with claims that credit regulation will increase the price of credit and reduce its availability. Unfortunately, the paper is not yet available on the web, and so I can't link to it, but this study suggests that in at least some circumstances, consumers can have their cake and eat it too, in that they can have consumer protection, lower interest rates, and no loss of credit availability. 

Update: the paper is now available here. 

Hoofnagle & Whittington Paper on Free Offers

The prolific Chris Jay Hoofnagle of Berkeley and Jan Whittington of the Department of Urban Design and Planning, University of Washington have written The Price of 'Free': Accounting for the Cost of the Internet's Most Popular Price, forthcoming in 61 UCLA Law Review (2014). Here's the abstract:

Offers of “free” services abound on the internet. These offers cause a conundrum for consumer protection. Courts are apt to discount users’ claims against such services; one recently held that users are not “consumers” for purposes of California consumer protection law. Industry leaders push to monitor users ubiquitously, an imperative driven by the desire to fund “free” content. Policymakers struggle with this imperative and weigh it against vague consumer preferences for privacy, which users seem to happily abrogate to get the next new free service. These problems, we argue, flow from attention to the price of free offers instead of their costs.

To elucidate these costs, we apply a transaction cost economic (TCE) approach to “free” transactions with personal information. TCE provides a framework for analyzing these exchanges even where the price of the product seems to be zero. “Freemium” offers employ a form of cross-subsidy, a technique widely accepted in infrastructure industries, and a basic tool used to support the equitable delivery of products and services with the understanding that some have more willingness and ability to pay than others. However, we argue that information intensive companies misuse “free” to promote products and services that are packed with non-pecuniary costs.

Current governance structures allow firms to collect valuable information ex ante and monetize it ex post, despite consumer preferences for privacy and the impression, given to the consumer, that the transaction would be “free.” Some firms obligate consumers to divulge personal information in order to try a “free” sample of their online product. Other firms, such as social networking services, would not have a product if not for the personal information consumers create and upload. In both business models, what may begin as ex ante misalignment between the interests of the firm and consumer can become ex post maladaptation when the firm realizes the financial gains possible from monetizing the consumer’s personal information. Targeted advertising, switching costs, the cost to consumers to try to monitor the actions of the firm, viral patterns of distribution of consumers personal information amongst firms, and disincentives that lead firms to underinvest in information security, are among the contractual hazards that raise transaction costs for consumers.

We then turn to potential governance structures to curb the incentives of firms to raise transaction costs for consumers. One source for legal intervention is the Federal Trade Commission’s “Free Guidelines.” These guidelines will be reviewed in 2017, offering an opportunity to reconsider the fairness of free offers conditioned on provision of personal information. As currently written, they do not directly address exchanges for personal information. Still, two remedies flow from the FTC Guide: clearer disclosures that personal information forms the basis of the transaction, and the requirement to establish a regular price before marketing a service as free.

While behavioral economics may support an outright ban of free offers because of their biasing effects, TCE suggests other strategies for reform, focused upon placing business risk more firmly in the hands of businesses. These interventions go beyond the traditional transparency and accuracy requirements suggested by privacy law. They involve eliminating the avoidable costs that arise for consumers when compelled to provide personal information in order to try a “free” product, recognizing the role consumers play in the production and business of social networking services, and requiring each third party interested in access to a consumer’s personal information to obtain opt-in per consumer through full disclosure with terms of service and privacy policies.

 

 

Bales & Gerano Paper: Oddball Arbitration

Richard A. Bales and Mark B. Gerano, both of Northern Kentucky have written Oddball Arbitration, 30 Hofstra Labor & Employment Law Journal (2013). Here's the abstract:

Congress passed the FAA in 1925 to resolve commercial disputes involving merchants. Since then, the Supreme Court has dramatically expanded the scope of the FAA and applied it in the employee and consumer settings. More recently the Supreme Court has chosen for its arbitration docket a set of cases with wholly atypical fact patterns in what appears to be a deliberate effort – successful so far – to advance its pro-arbitration policy agenda without provoking a political backlash. This article describes three oddball arbitration cases and argues that their atypical facts have permitted the Court to create legal rules that, while perhaps creating a just outcome in the oddball cases themselves, create unjust outcomes in the typical arbitration cases that much more commonly appear in the lower courts

Report on County Clerks and Qui Tam Suits Against MERS

Dustin A. Zacks of King, Nieves & Zacks PLLC has written Revenge of the Clerks: MERS Confronts County Clerk and Qui Tam Lawsuits, 32 Banking & Financial Services Policy Report No. 1 (2013).  Here's the abstract:

Mortgage Electronic Registration Systems, Inc. (MERS) has faced unceasing controversy from litigators and scholars for its role in foreclosures, its effect on public records transparency, and its role in the housing bubble. While scholarly accounts have described the challenges MERS has faced in foreclosure and bankruptcy courts, this essay seeks to examine the most recent burgeoning challenge to MERS' manner of business: county clerk and qui tam lawsuits.

 All around the nation, county clerks and qui tam litigants have begun to file lawsuits against MERS, alleging a number of claims, including that (1) MERS violated state laws requiring assignments to be recorded; (2) MERS used deceptive language to avoid recording laws; and (3) MERS has been unjustfully enriched by depriving county clerks of recording fee revenue. Ultimately, the essay finds that most courts have rejected these claims against MERS, but that such lawsuits remain an expensive risk to MERS.