Financial Stability Regulation as Indirect Investor/Consumer Protection Regulation: Implications for Regulatory Mandates and Structure

Article by Hilary J. Allen

An investor who purchases shares in a corporation, at a price that has been inflated by misleading information, suffers when the truth comes to light and the share price falls. A consumer seeking financing to buy a home suffers if a lender misleads the consumer about the cost and features of a mortgage that the consumer subsequently obtains. In the United States, investor protection regulations, as administered by the United States Securities and Exchange Commission (SEC), aim to address the first scenario by providing remedies for fraud in connection with the purchase or sale of a security. To address the latter scenario, a slew of federal consumer protection legislation exists that seeks to protect the consumer from unfair, deceptive, abusive, and discriminatory practices. Since the enactment of the Dodd-Frank Wall Street Reform and Consumer Protection Act (Dodd-Frank), these consumer protection statutes largely have been administered by the Consumer Financial Protection Bureau (CFPB). In both of the prior examples, the primary focus is on the harm that individual investors and consumers can suffer at the hands of unscrupulous actors. However, both investors and consumers are--collectively--hurt more by the economic disruptions that follow a financial crisis than they are by individual instances of misconduct.

Despite this, a shared characteristic of the SEC and CFPB is that both agencies typically discharge their protector functions from a direct perspective. Unfortunately, such an approach neglects the indirect harm that consumers and investors suffer as a result of financial instability. That is not to say that the SEC and the CFPB are currently discharging their functions in identical ways: there are certainly striking differences in culture and approach that are evident when we compare the agencies and when we compare investor- and consumer-targeted laws more generally. A more detailed analysis of such distinctions, and the design and purpose of the SEC and CFPB, can be found in the other contributions to this Symposium. The aim of this Article, however, is to illustrate the depth of harm that can befall both investors and consumers in the aftermath of a financial crisis and, in so doing, make the case that financial stability regulation--which aims to prevent such crises--should be conceptualized as a vitally important, albeit indirect, form of consumer protection and investor protection regulation.

Viewing financial stability in this way suggests a critique of the existing financial regulatory architecture in the United States, which has a council of regulators, but no dedicated agency charged with protecting consumers and investors from the indirect harms they suffer in the wake of financial crises. Instead, the structures in place in the United Kingdom and Australia offer a better alternative: both countries have adopted the so-called “twin peaks” model, which entails having only two financial regulatory agencies, rather than dividing up regulatory jurisdiction by financial industry sector, as is generally the case in the United States. Although not often described as such, the twin peaks structure can be conceptualized as designating one market conduct and consumer protection regulator to address direct harms to investors and other consumers of financial products and charging another, a prudential regulator, with preventing indirect harms in the form of externalities that flow from institutional and systemic failure. The focus of this Article is on the latter, prudential “peak” and on indirect consumer and investor protection; other contributions to this Symposium will consider whether it is advisable to implement the other “peak” in the United States (i.e., to create a single, unified market conduct and consumer protection regulator). This Article argues that the creation of a single prudential regulator, with an express financial stability mandate and jurisdiction over all financial institutions, would be the best regulatory design for promoting financial stability. However, recognizing that it is unlikely that there will ever be sufficient political will for such a restructuring in the United States, this Article also stresses that both the SEC and the CFPB, in their current forms, should strive to prevent crises and protect investors and consumers in so doing.

The remainder of this Article will proceed as follows: Part II will provide a theoretical sketch of how financial crises indirectly harm investors and consumers, before providing some more concrete data from the financial crisis of 2007-2008 (Financial Crisis or Crisis) and its impact in the United States, the United Kingdom, and Australia. Part III will then discuss how financial stability regulation, which seeks to prevent such indirect harms, is administered in the United States, the United Kingdom, and Australia. After concluding that the regulatory architecture in the United States is suboptimal when compared with the British and Australian alternatives, this Article considers in Part IV how the U.S. regulatory structure might be reformed to better address issues of financial stability. Part V offers second-best, but perhaps more feasible, suggestions as to how the SEC and the CFPB, in their current forms, might nonetheless make valuable contributions to financial stability regulation.

About the Author

Associate Professor, Suffolk University Law School.


90 Tul. L. Rev. 1113 (2016)