Josh Wright and Adam Levitin have been going back and forth about Wright’s paper (co-authored with David Evans) about the predicted impact of the adoption of the Consumer Financial Protection Agency (CFPA) on the availability of credit, economic growth, and new business formation (many new businesses rely on their founder’s personal consumer credit, such as credit cards, to start businesses, a point for which the CFPA makes no allowance). Wright and Evans offer some lower-bounds estimates of the predicted impact of the CFPA on interest rates and the other variables. Levitin has criticized their estimates as arbitrary. The estimates matter in thinking about the overall costs and benefits of the CFPA. Levitin criticizes the Wright & Evans estimates, but he offers no estimates of his own of the costs, benefits, or net costs and benefits of the proposal. Prof. Levitin seems to conclude from the absence of any estimated cost-benefit analysis, or any prediction of whether the benefits would exceed the costs, that this means we should go forward with the CFPA, a conclusion that seems questionable to me as I would think that the proponent of a new regulation (or a proponent of deregulation for that matter) would typically bear the burden of proof in advocating for a move from the status quo.
Be that as it may, Wright has proposed that the issue be settled on the field of battle–through a wager! Here’s Wright’s wager (the stakes are undefined at this point):
The CFPA Act’s supporters have fought vigorously for this piece of legislation. Professor Levitin appears quite confident that our analysis represents a “scare statistic” meant to avoid rigorous cost-benefit analysis and to ignore precision. Of course, we find this line of attack ironic in light of the complete absence of empirical evidence in favor of the CFPA Act mustered up by its supporters. More generally, we’d like to offer Professor Levitin the opportunity to prove that he means what he says about our overestimate of the lower bound of the impact of the CFPA Act on consumer credit and about the beneficial effects of the CFPA Act more generally. We are economists. And so we also believe in the power of revealed preferences. We stand by our estimate of the lower bound at 2.1 percent. If Professor Levitin is correct that is a ‘scare statistic’ that we’ve inflated from the true number, we would like to provide an opportunity for Professor Levitin to profit from our misguided approach and to test whether he really believes that the effect on consumer credit will be smaller than that.
We propose the following wager to Professor Levitin:
If the effect on consumer credit is less than 2.1 percent, you win and we lose
If and when the CFPA Act is passed, there will be ample data to test the impact of the CFPA on consumer credit directly. We’re happy to negotiate what methods should be used to calculate the number to both of our satisfaction. We’re also happy to let you name the stakes. But let’s make it interesting. If it’s good enough for Mankiw and Krugman, it’s good enough for us. What do you say?
I wish that wagers such as this would become more common. The most famous was probably the Simon-Ehrlich wager.
Back during the debates over the 2005 bankruptcy reform act I wish that I had thought to make a wager on whether bankruptcy filings would decline following the reform. Critics argued that filings would stay the same because bankruptcy filings are largely involuntary (so consumers don’t respond to incentives) or even that bankruptcy filings would rise because credit card issuers would expand credit supply and lending to riskier borrowers. I think a well-specified wager (as is the Wright challenge) is an excellent way of seeing how much people believe their claims as opposed to just making rhetorical arguments.
wm13 says:
Krugman never accepted Mankiw’s bet, did he? I believe that he, like a disproportionate number of lefties, prefers insult to empirical testing.
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November 5, 2009, 10:35 amMalvolio says:
Wouldn’t that statement itself demonstrate a preference for insult over empirical testing (unless WM has some research to back it up)?
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November 5, 2009, 10:39 amwm13 says:
Malvolio: my research consists of reading Krugman, DeLong, Kling et al. (Econlog), Mankiw, Cowen and Tabarrok more or less daily? Are there more blogs by economists of equivalent caliber that I should add to the sample? Please name them, and I will run a new study over the next 12 months.
But no one could dispute that the liberals in the above group are much ruder than the conservatives.
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November 5, 2009, 10:47 amDotar Sojat says:
What is the CFPA really supposed to do? What huge unmet need will it fulfill? The only conclusion that I have been able to draw is that it will be a great vehicle for wringing money out of the financial sector for interest groups and provide more fodder for plaintiff lawyers.
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November 5, 2009, 10:51 amzuch says:
“Nice credit card you have here. Wouldn’t want to see anything happen to it....”
I’ve noticed that all the banks are sending us new “terms” for the cards (presumably in advance of CFPA passage) with new rates of 30%!!!. Coinkydence? “Great minds think alike,” as they say ... or do we have just a tad of price-fixing.
Whatever. We’re tearing up almost all of our cards, and paying the rest off as they come in. Charging a mere 60% of what they’re currently charging used to be considered usury. Now they’re going for first-born sons while they can.
Cheers,
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November 5, 2009, 10:54 amDavid Nieporent says:
And making one’s own decisions about what’s best without the government interfering used to be considered adult responsibility. Guess the world has changed.
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November 5, 2009, 11:18 amMark Arnold says:
I really cannot imagine why you want evidence that the effect of this proposed legislation will be good. Everyone knows that the objective is a noble one: protecting the little people from the evil, nasty credit card companies. If the intention is good, that ends the inquiry. Only a mean-spirited conservative could think otherwise.
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November 5, 2009, 11:28 amMikey says:
Do you think that isn’t the actual intended purpose?
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November 5, 2009, 11:42 amfrankcross says:
wm, read Mark Thoma. Otherwise your list is good and you are correct about relative civility. But Thoma’s is fairly liberal, a good blog, and more civil.
And of course Delong and Krugman do have empirical research amidst their incivility.
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November 5, 2009, 12:06 pmzuch says:
David Nieporent:
And making one’s own decisions about what’s best without the government interfering used to be considered adult responsibility. Guess the world has changed.
We’re lucky. We can pay off the cards (barely). What about the poor folks, under water on their house, who have large carry-over balances? “Oh. We’re raising your rate to 30%. Sorry we didn’t consult you, ask you beforehand [didn’t you read the small print?], or warn you in advance. If you don’t like it, just pay us off the whole thing up front, now, and turn in your card. Late payment fees apply and interest accrues daily on unpaid balances. Oh, and by the way, did we mention the new fee schudules?...”
Care to explain why people (like us) with above average credit scores ought to be paying 30%? Why pretty much all the banks went to this rate simultaneously?
Cheers,
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November 5, 2009, 12:08 pmDavid Welker says:
Interesting debate.
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November 5, 2009, 12:22 pmDavid Welker says:
If anyone is interested in the working paper criticizing Josh Wright’s work, it is here.
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November 5, 2009, 12:31 pmAnon says:
That’s funny, Zuch. My credit card company also sent me a letter. They’re linking my rates to the prime rate. At the current prime rate, my own rate will go down from its current 10.9%. FWIW, my card is issued by a credit union specializing in a certain branch of the armed forces (I’ve been out for over a decade).
My guess is that something in your credit report triggered a likely-to-default flag, so they bumped the rate while they could. Perhaps they increased it higher than they would have otherwise, in anticipation of looming legislation. After all, their other customers who are likely to default in the next year or so can’t be given a 100% rate, so the risk is shifted to the remaining customers.
If you have a complaint with this — well, this risk-shifting is the intent of the CFPA, after all. It was just implemented sooner rather than later in your case.
I suggest you shop around. Perhaps another lender is willing to bear the risk of loaning you money.
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November 5, 2009, 12:36 pmDavid Welker says:
I have to say, if Professor Levitin’s claims about the “methodology” used in the Evans and Wright paper are accurate, they should be very embarrassed. No amount of gambling will transform fundamentally sloppy work into scholarship. I also question the sincerity of the bet, because it strikes me as unverifiable. We are dealing with a counter-factual. If the CFPA is passed, the bet depends on guesses about what interest rates would have looked like in the counter-factual world that does not exist where the CFPA was not passed.
The proposed “bet” is a total distraction and not worthy of being dignified with a response. It smacks of a desperate attempt to obtain credibility as a substitute for actually defending the “methodology” used in the paper. The only thing that is relevant is a defense of the methodology used.
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November 5, 2009, 12:55 pmStating the obvious says:
So as I understand it, the purpose of the CFPA is to try to police the credit card industry and at least give consumers some protection from the contracts of adhesion and unfair practices of the credit card companies.
In order to prove just how horrible the CFPA is, Todd (BFF of the credit card companies) trots out horror stories of how the credit card companies are using the time before the law takes effect to take full advantage of the ridiculous terms they have written into their credit card contracts to jack up interest rates on consumers.
Does anyone else see the inherent contradiction in this argument?
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November 5, 2009, 12:55 pmCheckEnclosed says:
Maybe I missed something, but what exactly is the measure that the wager is about? The post and wager reference “impact on consumer credit”. Does that mean the bet is about whther the overall amount of consumer credit outstanding will decrease by at least 2.1%; or that some interest rate will go up by at least 2.1%, or some other proxy for consumer credit will change by at least 2.1%, or what?
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November 5, 2009, 12:56 pmDavid Welker says:
Anon:
Credit card companies engaged in this sort of behavior before the legislation was proposed. I think it is kind of funny that you think the causation runs backwards. It is this sort of unconscionable behavior that caused the need for this legislation in the first place.
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November 5, 2009, 12:58 pmDavid Welker says:
CheckEnclosed,
The bet is completely non-substantive. It is a bet about the future versus a hypothetical world that will never exist. Even in the future, it will not be verifiable.
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November 5, 2009, 1:02 pmAnon says:
Welker, Checkenclosed:
(1) Click on the links in the post.
The bet is whether consumer borrowing will drop by 2.1%. How to measure that is subject to negotiation.
Put your money where your mouth is. Send Wright an email proposing terms for the bet.
(2) Causation isn’t backwards. I stated that perhaps they increased the rate higher than they would have without looming legislation. They increased rates before CPFA the same as car insurance companies increase rates when you do something that indicates your risk has increased (speeding tickets, DUIs, accidents).
With CPFA on the horizon, cc companies realize that risks will have to be spread from high-risk customers onto customers that otherwise would merit lower rates. The same thing would happen if you passed a law saying that car insurance companies can’t increase your rates. Anyone that fits a “might get a DUI” profile gets an early increase in rates (before the law is enacted) instead of waiting until the DUI happens. Others might get a rate increase simply in anticipation that everyones’ rates will have to rise a little (instead of just a big increase on certain high risk customers) after the legislation is effective.
It sucks to be us, but TANSTAAFL. This is what we asked for.
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November 5, 2009, 1:41 pmzuch says:
Anon:
Yeah ... like canceling my other cards, perhaps? There’s a score they use, the ratio of debt to credit limit. If you cancel your unused cards, you reduce your total credit limit by the amount that these cards have proffered you. So your debt to limit ration goes up, even if you don’t owe more (and perhaps less if you pay off balances on the cancelled cards). Does that make sense? No, sorry, this 30% was from such notables as Citibank and BoA. They need no reason to change interest rates; they can do it to you even if your credit score is rising. That’s the beauty of the system as it stands.
Bingo, Sherlock.
And does this make sense to you?!?!?
Cheers,
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November 5, 2009, 1:47 pmzuch says:
I’d note a incident a number of years ago when one card (FirstUSA) had jacked the rate to an (at that time) ungawdly 25%. I called and told them that I would cancel on the spot if they didn’t reverse this. They said, “No, we won’t.” I explained to them that they’d make plenty good money off me if they did reduce the rate again, but they wouldn’t ever get a dime more from me if they didn’t. They still wouldn’t relent (so I cancelled). This is their attitude: “We have the power to do what we want. Take it or leave it. Doesn’t matter if you go elsewhere (and where else are you gonna get a better deal, huh?, huh?), because most of the people we’re screwing over have absolutely no choice....”
Cheers,
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November 5, 2009, 1:53 pmDavid Welker says:
After reading Wright and Evan’s “response” to Levitan, I think we can conclude that the original study funded by the American Bankers Association is in fact indefensible.
Here is what is not done in the Josh Wright’s “response.” An actual defense of the methodology used in his paper. It is just a bunch of smoke and mirrors, as is the desperate proposal to have a bet.
No where in Wright’s response does he deny that the following is an accurate description of his methodology:
This same criticism is made in the actual paper criticizing Wright as well:
Oh wait. Josh Wright objects! This is meant to be a lower bound, not a precise estimate. Here is the actual methodology:
Oh, that makes it all better!
This number is garbage either way. As for the rest of the “analysis” presented in the paper, they have a saying in computer science. GIGO: Garbage-In, Garbage Out.
Given Wright’s failure to deny that this is the methodology he used in his response to Levitan, I will take it as an admission that it is an accurate description of the methodology he employed.
If this what constitutes “evidence” for Josh Wright (whether for a lower bound or for a precise statistical estimate), he has no business being a professor.
What does Wright do in his so-called “response” to Levitan? What he does is talk about everything except for his bogus methodology. He tries to shift the burden of proof to Levitan. But that is an invalid move. Levitan isn’t trying to perform his own empirical study. He is pointing out that the methodology that you used is bogus. Respond to that claim. Defend your methodology.
Here is a lesson in logic 101 for Josh Wright. Levitan does not need to perform his own empirical study in order to point out that the “methods” that you employed to arrive at your “empirical” findings are garbage.
The betting and Wright’s response is a bunch of smoke and mirrors. His work is not scholarship and cannot be defended as such. That is the bottom-line. That explains why Wright does everything in his response except defend his methods.
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November 5, 2009, 1:54 pmzuch says:
Anon:
You misspelled “charges” (or “costs” ... or “profiteering”).
Cheers,
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November 5, 2009, 2:02 pmDavid Welker says:
Anon,
No, I would rather that Wright explain how he proposes to do such a bet. Then we can talk about whether his proposal actually measures anything.
Anyway, the bet is a bunch of smoke and mirrors. It isn’t going to salvage Wright’s reputation. He put his name on this study with its garbage methodology. No amount of betting is going to change that.
The point is, credit card companies have been engaging in these abuses for years. That they are trying to get one last bite at the apple while they still can is not surprising. It just confirms what we already know about them.
If they didn’t engage in abusive practices in the first place, the CFPA would not be necessary. It is their behavior that caused the CFPA. It isn’t the CFPA that caused their behavior. The latest moves by the credit card companies are all quite typical.
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November 5, 2009, 2:02 pmSteve says:
Sounds like the basis for this bet is remarkably similar to Mankiw’s challenge to Krugman (which I had to Google). In short, Mankiw made an argument as to why Obama’s economic projections wouldn’t work out, Krugman explained why he thought Mankiw’s methodology was unreliable, and Mankiw’s response was to challenge him to a bet as to whether Obama’s forecast would prove correct.
The paradigm resembles the following:
A: I have consulted the star charts, and they tell me GNP will grow by 1% in the fourth quarter.
B: But astrology is completely bunk!
A: Okay, so do you want to bet on whether GNP will grow by 1%?
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November 5, 2009, 2:12 pmmicrotherion says:
Why do you wish that? The way filings are trending, you’d be likely to lose such a bet, if it were made over a reasonably long term.
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November 5, 2009, 2:16 pmPQuincy says:
The bet is that consumer credit will decline more than a certain amount, or not.
Is that the proper test of the CFPC act? If the act’s goal were simply to sustain or increase gross consumer credit, yet. But scarcely anyone argues that is its goal. Some argue that it is intended to end various abusive practices of credit card companies — practices that are indeed contained in their ever-shifting contracts with consumers, including clauses that allow the credit card company to change the contract any time unilaterally. There are, it seems to me, good reasons having to do with the integrity of contracts as legal instruments to argue that some of the proposed restrictions make sense. Libertarians, it seems, argue that contracts are sacred, including contracts that would, under other circumstances, be unconscionable (i.e., one party can unilaterally change any term any time — reminds me of a medieval village that claimed to its lord that the village had received various privileges of autonomy and tax exemption...including the privilege of not having to show its privileges.)
Others, at least implicitly, take up a very old argument — one which ought to be popular among anyone believing in some kind of ‘natural law’ — that excess interest on debt, however collected, is “usury” and eo ipso immoral and abusive.
A third perspective might point out that consumer credit has been used to create, for many borrowers, the modern equivalent of the ‘company store’. Would those here who defend the credit card companies also defend traditional company stores, for whom actually collecting on debt was never a primary goal, since eternal servicing (together with the concommitant binding of people to a location where there was a monopsony employer) was more lucrative?
For anyone arguing in favor of a CPSC, fluctuations of credit volume would have no probative effect whatsoever, and would therefore not be a good basis for judging the act and its consequences. (I realize that among economists, one might want to make such a bet and think it mattered: and for such people, please also consider adjusting your investments on the basis of economists’ predictions, and see how you are doing in 5 years!)
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November 5, 2009, 2:18 pmbyomtov says:
That paper really is every bit as bad as Levitin says. Read it. It’s 47 pages of boilerplate discussion of the benefits of various forms of credit, mixed in with repeated and unsubstantiated claims about the harm the legislation will do.
Finally come six pages of “analysis” to generate their numbers. This is the part Levitin attacks, and his attack is accurate. Numbers are pulled out of the air, wild assumptions made, data misrepresented.
It’s true that Levitin makes no estimates of his own, about which I would say this:
1. That’s not his objective in writing the critique.
2. That Levitin did not make any estimate is no excuse for the silly work produced by E&W.
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November 5, 2009, 3:11 pmwm13 says:
In my experience, credit card companies operate like universities and law firms, i.e., they constantly monitor and attempt to exploit the price sensitivity of their customers.
Law firms and universities both have very high stated prices. Universities demand lots of financial information about applicants, which they use to figure out how much the applicants are willing to pay. Then they give discounts (usually called “scholarships”) to those who they think are price-sensitive. Similarly, every biglaw firm that I know has both “standard” and “discount” rates, and often a range in between. Price sensitive clients negotiate to get lower rates; clients for whom other factors are more important (e.g., reputation for cutting edge work in a particular field) don’t.
Credit card companies often increase interest rates for rather specious reasons. When they have bumped up my rate, I call and threaten to cancel the card, and I have never had a company refuse to restore the lower rate. (I try not to carry balances at all, but it happens.)
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November 5, 2009, 3:28 pmJanon2 says:
You’re absolutely right. The study is laughable. It doesn’t even mention which aspects of the CFPA would actually lead to a decrease in credit. The best candidate — the requirement to offer a “plain vanilla” mortgage — is already out of the bill. Barney Frank dropped it at the beginning of the markup. The inadequacy of the “study” does not mean that the CFPA is a good idea or that the premise that consumer fraud caused the subprime credit is correct. In fact, the qualitative arguments that an activist CFPA could cause a contraction in credit and in purchases may very well be right, but that’s also true of the Fed’s, and HUD’s, new-found aggressiveness, which started as the Bush Administration was winding down and which we’ve heard very little about from Zywicki and company. It’s the quantitative analysis that’s a complete joke.
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