Parts of the financial services industry have sought to clip the CFPB’s wings or even eliminate it entirely since its creation. And as things stand, they’ve basically rendered it ineffective, although of its authorities remain intact. Instead, its lost much of its human capital and its funding stream has been reduced.
But careful what you wish for. We live in a federal system, and federalism has a hydraulic nature—when the federal channel gets blocked, the current flows down through the states and even local government. And that’s exactly what’s going on. We’re seeing state and local (NYC) government being much more active not just on the litigation front, but also on the regulation front, and state and local governments in blue states face neither the political constraints of federal regulators nor the same statutory limitations. Instead, they are much more likely to express an unchained version of the progressive vision for consumer financial regulation than the CFPB ever did.
The assumption a lot of people had with the advent of the second Trump administration was the enforcement activity in consumer financial services would shift to the states. And it has to some degree. The states can enforce the Consumer Financial Protection Act against all financial services companies other than national banks and federal thrifts, and they have even taken over some suits that the CFPB dropped. But the litigation front isn’t a big story—state litigation often has a bit less wallop than federal because it will just involve a smaller population of consumers and therefore fewer transactions. And litigation still remains a one-off activity, even if it sets markers for expectations for other firms in an industry.
Instead, the story that I think really matters is going to be state and local regulation. Although the enforcement reach of these rules is local, its effect is often functionally national, either because there’s a huge state market involved (California) or because it’s too hard to adapt business practices to particular states or localities.
First, we’ve seen some states (most recently New York) revamp their UDAP statutes to track the Consumer Financial Protection Act. Second, now we have NYC being particularly active, with both pending legislation (the POWER Act that would create a private right of action for UDAAP violations, including for nonprofit organizations on behalf of their members, potentially sidestepping arbitration provisions) and proposed rulemaking.
As a political matter, the regulatory push is all coming out of deep blue strongholds, particularly California and NYC. That creates a different dynamic that affects the substance of regulation than at the federal level. It’s not just about whether the substance of the regulation resonates with voters in those states. It’s about the culture of the regulatory agencies themselves, which do not necessarily have the same set of career federal civil servants who can moderate the content of what political leadership wants.
Critically, state and local regulation is under different, and sometimes broader, authorities than federal regulators possess. The proposed NYC chatbot rule, for example, about which I’ve previously blogged, is under the NYC unfair trade practices statute. That statute doesn’t track section 5 of the FTC Act or section 1031 of the Consumer Financial Protection Act. It’s a slightly different mini-FTC Act that prohibits deceptive or “unconscionable” acts or practices and spells out in some detail what those include. Critically, it does not contain an analog to the FTC’s policy statement on unfairness, which was codified in section 1031(c)(1) of the Consumer Financial Protection Act. The NYC unfair trade practices statute contains no requirement of balancing the harm to consumers against benefits to consumers or competition. That balancing provision has been a key limitation on the reach of “unfairness”. The FTC and CFPB basically do not bring unfairness cases when there is any question about offsetting benefits. The CFPB can potentially work around that by using the “abusive” prohibition, but the FTC cannot. NYC is not so constrained, so it can promulgate a rule that would not fly under the FTC Act or under section 1031(c) (and maybe (d)) of the Consumer Financial Protection Act.
So here is the irony. The effect of hobbling the CFPB has been to push regulatory activity into state and local government in deep blue states where there is no real political constraint on the content of regulation, potentially fewer statutory constraints on regulation, and, in the case of litigation, less likelihood of being able to remove actions to federal court. The assault on the CFPB might not have been a well-thought-through strategy.
The dormant commerce clause might constrain some of these state/local efforts, but I am skeptical. We might also see an attempt to push federal preemption more aggressively as a countermove, but that’s got two problems. First, after Dodd-Frank, preemption is just harder, although not impossible, as the Second Circuit’s Cantero remand decision illustrates.
And second, more and more of financial services are happening outside of banks. There’s no preemption for non-bank financial services companies themselves, and a lot of federal consumer financial laws expressly permit state laws to go farther. Often there is a bank partner involved with the non-bank financial services company, but the preemption analysis in a BaaS context is trickier: is the regulation actually of the bank? And is the bank actually acting as anything other than the agent of the non-bank, such that it isn’t exercising its own powers, but the non-banks?
More generally, I wonder if it is possible to put the genie back in the bottle. If a Democratic administration comes back in 2029 and fires up the CFPB, will the state/local enterprises cease to be active and innovative? Or will that be where the progressive wing of the Democratic party pushes the CFPB to the left?