Everybody likes to get money back from the government. Now there’s a new way to cash in on Uncle Sam. But like many government programs, this one has a few issues.
If you bought a car in the last few years, you might get a check from the Consumer Finance Protection Bureau (CFPB), as long as you live in the right (or I guess, the wrong) neighborhood and have a certain sounding last name.
That’s because the watchdog agency started sniffing around the auto industry a couple of years ago and dug up a bone. It might be a synthetic bone that you can see only with x-ray eyes, but hey, they’re the government.
The board demanded that a lending institution, Ally Bank, atone for its theoretical sins – which I’ll detail in a moment – by paying millions of dollars without admitting guilt. Now it’s got to find some victims.
It’s the latest example of a government agency that’s broken free of its leash.
When buying a car, there’s money to be made or lost at each step, depending on whether you are the buyer or seller. Beyond simply negotiating the cost of the vehicle, buyers must navigate the dealer add-ons, prep charges, and extended warranties. After all of that is done, buyers have to contend with one more important variable – financing. Dealers take credit applications from borrowers, feed them into their systems, and then get financing offers from lending institutions, which dealers can mark up for more profit.
The CFPB's Racism Boogeyman
The CFPB found an ethereal offense in this corner of finance. The agency sifted through mountains of data and determined that Ally Bank charged different people different rates of interest. Buyers with lower credit scores, smaller down payments, or less income were charged more.
The CFPB knows this for a fact, since the agency reviewed credit applications containing such data. But that’s not the problem. The CFPB is certain it spotted something else: Racism. The agency socked Ally Bank with an $80 million penalty for the alleged offense.
Unfortunately, they hit a snag. None of the applications identified the borrower’s race.There’s a good reason for this. It’s illegal for the lenders to collect the race of applicants because that attribute, either consciously or unconsciously, might affect a lending decision.
Ally Bank had no way of knowing any applicant’s race. But such a trivial problem wasn’t about to stop the CFPB. The agency enlisted the help of some math geeks, who used Bayesian Improved Surname Geocoding (BISG), to guess the consumers’ race.
The model cross-referenced more than 150,000 last names from the 2000 census to determine the likelihood that a last name belongs to a minority. Then, using the racial composition of neighborhoods based on the 2010 census, the BISG determined if borrowers lived in predominantly minority locations.
By cross-referencing the results, the CFPB developed a guesstimate of which borrowers are most likely minorities. Of course, the CFPB doesn’t know anyone’s race, because no one ever asked. Again, it’s a trivial concern, but it does bring up another problem.
The BISG results aren’t one-size-fits-all. According to the model, some consumers are all but certain to be minorities, while others simply have a better than 50% chance. The CFPB doesn’t want to send out checks to undeserving people – the ones that aren’t minorities – so it came up with a novel approach.
If the algorithm is 95% certain a borrower is a minority, the CFPB sends a letter explaining the situation – you were probably overcharged and will soon receive a check. The CFPB does ask the consumer to write back if they’re not a minority.
If the algorithm is only between 50% and 95% confident a borrower is a minority, a different letter is sent. This one asks the consumer to write back confirming they are indeed a minority so they can qualify for a check.
All of this Brings up a Couple of Questions
If the CFPB has to use a complicated algorithm to determine a person’s race, what methodology do they think Ally Bank used?
It’s a bank, after all, not a car dealership. The lender wasn’t sitting in front of the borrowers. They simply received an electronic credit application. If the charge is that the dealership finance officers and not the banks used race when offering finance terms, then why not go after them instead? There could be real issues here, it’s just difficult to see how they reside at the bank.
And if a certain finance charge is excessive, then why is it only excessive for some of the borrowers who paid those rates and not others? If the CFPB identifies certain rates as predatory, don’t all consumers deserve their “protection,” no matter what their race?
I’m no fan of Ally Bank. It’s the old finance arm of GMAC, which got involved in subprime loans and required a taxpayer bailout. But that doesn’t make extorting money from the lender based on an algorithm acceptable.
There might be areas where the CFPB has done some good, saving consumers from harm or stopping abusive practices, but I haven’t seen one. So far, it looks like one more agency that’s determined to provide solutions, and then go looking for a problem.
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