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'Transparency' and the CFPB's Use of Proxy Data in Identifying Discrimination in Auto Finance
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'Transparency' and the CFPB's Use of Proxy Data in Identifying Discrimination in Auto Finance
By Jean Noonan / Hudson Cook LLP

Consumer Financial Protection Bureau Director Richard Cordray was recently asked by House Democrats for an explanation of the Bureau’s methodology for spotting illegal discrimination in indirect auto finance. Democrats on the House Committee on Financial Services made the request following the Bureau’s March 21, 2013, bulletin announcing the CFPB’s intention to hold indirect auto creditors responsible under the Equal Credit Opportunity Act for pricing decisions made by the dealers from which they buy contracts. 

Citing the Bureau’s often-repeated commitment to “transparency” in its operations, the Members of Congress asked Director Cordray for answers to key questions about its methods. Specifically, the lawmakers asked for:

  • The factors the Bureau uses to determine a consumer’s race, sex or ethnicity;
  • Its methods for ensuring that pricing differences between groups are based on illegal factors and not legitimate differences between consumers or deal structures; and
  • The numerical threshold for making a “federal case” out of differences in average interest rates between groups.

These are excellent questions. 

These issues have long troubled those of us who help indirect auto creditors manage their fair lending risks. We have repeatedly asked for guidance from the CFPB staff, who often talk about the agency’s commitment to transparency. But we have gotten nothing specific from the Bureau. 

So Director Cordray’s response was eagerly anticipated. And quite disappointing.

Let’s look at the first issue: How is an indirect auto creditor, who never sees the consumer, supposed to know the consumer’s race, ethnicity or gender? The CFPB said it uses “proxy” data to make these assignments. Proxy data is called “proxy” because it is substituted for “real” data. The Bureau, lacking real data, substitutes other data, including geographic location and surnames. 

The Bureau said the data come from publicly available information from the Social Security Administration and the Census Bureau. But how, exactly, is this information used? 

One can try to infer a borrower’s race based on geographic location, but the conclusion one draws is affected greatly by how the analysis is performed. For instance, the size of the geographic unit used matters a lot. How are surnames used to tell a person’s race or whether they are Hispanic? The agency doesn’t say.

The CFPB’s letter was no more enlightening on the issue of its methodology. Banks who have argued with the CFPB over allegations of pricing discrimination have often been frustrated by the Bureau’s refusal to accept controls for many factors that accurately predict the dealer’s interest rate quote and the markup over the buy rate. After all, what is the point of monitoring pricing if the Bureau will reject the validity of a creditor’s controls for determining which borrowers are similarly situated? 

Having an open discussion about this issue would be great. Even just knowing what the CFPB thinks are appropriate control factors would be useful. Instead, this is all we were told: “Our analysis considers appropriate analytical controls in reviewing data.” Well, that clears everything up!

By now you may be guessing that the agency’s letter offered no real insight on the third issue. You would be right. 

Determining illegal discrimination in indirect auto financing is a terrifically difficult task. Proxies have large error rates. Is a person named Chris male or female? Is a person named Heather Garcia Hispanic, or did she – or an ancestor – simply marry a Hispanic? Is a person who lives in a census unit that is 60% African American a minority?  

It is not unusual for the margin of error for proxies to be large. In light of this, the indirect auto industry has urged the CFPB to tell us what a reasonable tolerance would be for pricing differences between groups. Twenty-five basis points? Fifteen? Five? The letter tells creditors to monitor their data and find “solutions” for differences in pricing. But it tells us nothing about the level of difference that should concern us or require corrective action.

The House Democrats are not alone in their distress. A group of 35 Republican lawmakers reportedly also wrote to the CFPB with concerns about the Bureau’s “onerous” requirements for auto finance companies. 

In its letter to House Democrats, the CFPB twice referred to its commitment to transparency. Its commitment to transparency is a good thing. Actual transparency would be even better.

Reprinted with permission from Spot Delivery ©2013

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