Danker: How the CFPB Got the Fed’s Lunch Money

Posted July 23, 2012 at 12:56pm

This month marks the two year anniversary of the Dodd-Frank financial reform bill, and with it, the Consumer Financial Protection Bureau.

The CFPB is independently operated but housed in the Federal Reserve System and funded exclusively by the Fed. In May, House Republicans voted to defund the agency by two-thirds. While the budget savings itself was part of a larger effort to avoid the sequester, the underlying point of this move by Budget Chairman Paul Ryan (R-Wis.) and company was to bring the bureau into the regular appropriations process.

But how the CFPB landed outside of Congress’s constitutional purview and on the dole of the Fed is a story involving other high-ranking Republicans.

The CFPB — pioneered by Harvard Law School professor and current Massachusetts Senate candidate Elizabeth Warren — was originally proposed by the Obama administration as a completely autonomous agency. That was in the financial reform the Democratic-controlled House passed at the end of 2009. But then-Sen. Chris Dodd (D-Conn.), beginning work on the landmark legislation that would eventually bear his name, proposed housing it in the Treasury, where it would operate independently as the Office of Thrift Supervision does. Its funding stream would be derived from fees on banks and nonbank lenders.

But before the ink was dry on his proposal, Dodd shifted gears and put the CFPB inside the Federal Reserve in an effort to garner Republican support. Sen. Richard Shelby (R-Ala.), the ranking member of the Banking Committee, had put out a competing version of Dodd’s first bill, which created a consumer protection division within the Federal Deposit Insurance Corporation. Sen. Bob Corker (R-Tenn.), the Senate Republicans’ top dealmaker who had been working closely with Dodd, had just left the negotiations in frustration.

Now Dodd had a compromise, with his new draft housing the entity in the Federal Reserve.

The Dodd plan had plenty of other hot-button components inside and beyond the CFPB to ward off bipartisan support, and in the end these would make Dodd-Frank a mostly party-line vote. But the Fed connection was not one of them — that was a concession to the GOP. As Dodd told American Banker months after its passage, “The idea of putting the consumer protection bureau in the Fed was a Republican idea.”

This is a disturbing legacy for a party looking to get serious about reigning in the central bank.

Tying the CFPB’s budget to the Fed has obvious appeal for advocates of a well-funded agency. The Federal Reserve System is self-funded through its open market operations, which consists of securities it acquires by creating money out of thin air (or rather, on a computer screen). Therefore the Fed has no theoretical limit on its expenditures, and Dodd-Frank gives the CFPB up to 12 percent of its operating budget. This year, the 800-employee bureau is slated to receive $547 million.

A few weeks after Dodd’s rollout, former Clinton White House Council of Economic Advisers chairman and current Brookings Institution senior fellow Martin Baily wrote that anything other than a stand-alone agency would upset liberals, but Dodd’s version “looks like a clever ruse to use the Fed’s deep pockets as an independent source of funding for the bureau.” With the budget showdowns that became a fact of life after Republicans took control of the House the next year, insulating the CFPB from the regular appropriations process proved to be a prescient way to keep it off the chopping block.

For Corker and Shelby, the Fed appeared to be a way of keeping the CFPB from running amok as they thought it would under Obama’s proposal. As the New York Times reported, “Republicans and Wall Street wanted, instead, for consumer protection to be woven into regulation of financial firms’ soundness. Corker eventually offered to create an independent consumer agency within the Federal Reserve — but limit its ability to enforce its rules.”

The thinking that an association with the central bank would depoliticize consumer regulation was misguided. The Fed, like the National Labor Relations Board and other “independent” institutions, has increasingly submitted to the president’s agenda. Chairman Ben Bernanke’s bond-buying has enabled the Obama administration to fund trillions in deficit spending at suppressed interest rates. Republicans are naïve if they still see the Fed as a buffer to the administration’s fiscal irresponsibility the way they did when Alan Greenspan was in charge during the Clinton administration.

Senate Republicans, including Corker and Shelby, did not end up supporting Dodd-Frank, but they did grease the skids for its worst feature — an unrestrained financial regulator funded with the Fed’s unlimited checkbook.

Better understanding of the Federal Reserve System’s political exposure could have prevented this mistake. Beyond bringing the CFPB back under Congress’s appropriations power or even repealing Dodd-Frank, the GOP should focus on scaling back the Fed, not lengthening its tentacles.

Rich Danker is economics director at American Principles Project.