Public Disclosure and Consumer Financial Protection

The 2008 financial crisis triggered a surge of interest in regulating consumer financial markets. The Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 created the Consumer Financial Protection Bureau (CFPB) to safeguard consumer interests. Since 2011, the CFPB has accepted complaints about the financial products and services provided by the depository institutions under its jurisdiction. Since 2013, the CFPB has released a complaint database to the public. The data include individual complaints, their submission dates, complainants’ 5-digit ZIP Codes, types of products and issues (without narratives), and the names and responses of the banks involved.

The purpose of this public disclosure is to empower consumers to better understand and detect instances of unfair or deceptive practices and alleviate problems upfront by helping consumers avoid bad actors. By doing so, the bureau intends for its complaint data disclosures to improve the transparency and efficiency of such consumer financial markets. Despite the economic significance of the consumer financial markets and the importance of the stated goals, however, little evidence exists on the effectiveness of this disclosure in protecting consumers.

We provide such evidence by examining mortgage complaints. To address our line of inquiry, we ask the following questions. Does the disclosure of more mortgage complaints against a bank lead to fewer mortgage applications to the bank? Moreover, does such public disclosure give the bank incentives to act to reduce mortgage complaints?

It is unclear whether the release of mortgage complaints influences the decisions of consumers and banks. Critics of the disclosure cast doubt on the usefulness of the database. Several trade associations express concerns that the accusations in the complaints are unverified, unrepresentative, lacking in context, and open to manipulation. Specifically, the CFPB does not verify the content of the complaints in its database and acknowledges that these complaints represent the experience of a non-random subset of consumers who have chosen to appeal to the bureau. For the protection of consumers’ privacy, the disclosures exclude narrative fields that expressly call for personally identifying information, leaving little context for users to understand the nature of the complaints. Another impediment to the effectiveness of this disclosure policy is that consumers, especially unsophisticated ones, may not be aware of or have the capacity to process the data. Even if consumers fully understand the disclosures, they have few alternatives if the local residential mortgage-origination market is concentrated. To the extent that disclosing mortgage complaints reveals little useful information and thus does not elicit consumers’ responses, banks will not have incentives to reduce consumer dissatisfaction.

On the other hand, there are several reasons why public disclosure of mortgage complaint information can protect consumers. First, the CFPB has taken measures to enhance the informativeness of the disclosures. If banks are unable to verify the commercial relationship with the consumer who filed the complaint or believe the complaint was from an unauthorized third party, the bureau will withhold the complaint from publication. Additionally, the bureau takes steps to consolidate duplicate complaints from the same consumer into a single complaint. Second, the public database essentially creates an online word-of-mouth platform, which is more powerful than traditional social learning in aggregating and disseminating the wisdom of crowds. Third, consumers do not necessarily have to use the database directly. Consumer organizations, researchers, and other third parties can mine the database and help consumers make more informed decisions. To the extent that these reasons dominate, after the disclosure, we expect a greater reduction in mortgage applications to banks that receive more mortgage complaints. The reduction, along with other reputational costs, should give banks incentives to take action to reduce mortgage complaints.

We examine CFPB-supervised banks (those covered in the complaint data) with mortgage applications in the HMDA database. We obtain the mortgage complaints against these banks from the CFPB consumer complaint database. This database was released on March 28, 2013, covering complaints dating from December 1, 2011. We begin by examining the premise that the disclosure of these complaints reveals new information regarding the quality of banks’ mortgage products. We find that the number of mortgage complaints as of the disclosure date is positively associated with the frequency of CFPB enforcement actions and the settlement amounts from these actions over the next five years and is negatively associated with customer satisfaction scores from Consumer Reports. We also show that the banks’ stock prices on average react negatively to the disclosure event. The magnitude of the negative reaction increases with the number of mortgage complaints released on the event day. This initial reaction does not reverse over the next six months. The results suggest that the disclosure of consumer complaints provides new information to the public, with more complaints indicating that the associated banks have poorer quality mortgage products and services, and thus will likely generate lower future cash flows.

For the primary analysis, we construct a sample at the bank-county-year level during 2011-2015. The sample consists of 39,263 bank-county-years, representing 118 unique banks and 29,151,375 mortgage applications. We find that, after the publication of the database, banks with more mortgage complaints in a county experience a greater reduction in both the number and the dollar amount of mortgage applications from that county. A one standard deviation increase in disclosed mortgage complaints is associated with a 10.5 percent decrease in the number and a 9.1 percent decrease in the dollar amount of mortgage applications. The decrease does not occur one year before or during the release year, and first appears one year after the release (i.e., in 2014). The results suggest that consumers did not have sufficient knowledge about banks’ mortgage quality prior to the disclosure.

We predict and find that the disclosure effect is more pronounced for counties with more sophisticated consumers and more competition among banks, as well as for banks with more severe complaints. We also find a stronger disclosure effect in states with greater changes in the Google Search Volume Index for the keyword “CFPB” from the 12 months before to the 12 months after the disclosure and in states with more consumer groups that file comment letters in favor of the public disclosure of consumer complaints. The results suggest that internet searches and consumer groups play a role in disseminating the complaint information.

Finally, we explore the disciplinary effect of the disclosure on banks. We find that banks exhibit faster mean reversion in the number of monthly mortgage complaints after the disclosure; the result is driven by banks with a high number of mortgage complaints. For these bad performers, the increase in mean reversion is concentrated among counties with more sophisticated consumers and more competition among banks as well as among banks with more severe complaints. Together, the results suggest that the disclosure of mortgage complaints disciplines banks to improve the consumer experience with their mortgage products and services.

Our paper contributes to the literature on the effectiveness of regulation through disclosure and transparency. Although disclosure policies are increasingly used as a public policy instrument to encourage or discourage certain behaviors and business practices, little is known about where and when such policies advance regulatory goals Our findings suggest that disclosure of complaint data facilitates consumer financial protection, particularly when consumers are more sophisticated, when credit markets are more competitive, and when disclosed complaints are more severe.

This study adds to the debate about the costs and benefits of consumer financial protection measures implemented after the recent financial crisis, in particular regarding the efficacy of the CFPB’s complaint disclosure policy. Consumer groups advocated this policy, while financial institutions strongly opposed it. Recently, members of Congress and the bureau’s acting director have proposed making the complaint database invisible to the public. Our findings suggest that public disclosure of complaints serves as a useful regulatory tool and indeed facilitates consumer protection in mortgage markets.

This post comes to us from professors Yiwei Dou and Yongoh Roh at New York University. It is based on their recent paper, “Public Disclosure and Consumer Financial Protection,” available here.