Role of Information in Lending: The Cost of Privacy Restrictions

Publication Date: May 2003

Publisher: Library of Congress. Congressional Research Service

Author(s):

Research Area:

Type:

Abstract:

Two bills have been introduced in the 108th Congress, S. 660 and H.R. 1766, which propose to make permanent the Fair Credit Reporting Act (FCRA) provisions that preempt state law. These provisions allow for a national and uniform standard for sharing credit information by financial institutions and are set to expire on January 1, 2004. One of those specific provisions prohibits states from enacting laws that impose additional restrictions on the type of information contained in consumer credit reports. If the 108th Congress does not extend this provision, states could enact laws that limit the amount and type of information a financial institution is allowed to report to credit bureaus. Financial privacy advocates strongly support legislation that makes information sharing laws more restrictive. They are concerned about the heightened risks to consumers from the widespread availability of an individual's financial information, such as identity theft or other possible means of misuse.

From the perspective of economics, the availability to lenders of complete and accurate data on past consumer borrowing behavior is considered essential to an efficient credit market. The ability of borrowers to access credit at reasonable rates is critical to facilitate investment and commerce, and thereby sustain economic growth. It is claimed that consumers in the United States have more ready access to low-cost credit than consumers anywhere else in the world. This is due in part to public policies, such as the FCRA, that support the pooling and sharing of consumer credit data.

There is a growing body of economic research suggesting that privacy laws that restrict the availability of credit bureau data could impose significant economic costs. These possible costs include higher interest rates, reduced accessibility to credit, and a lower volume of lending activity. Furthermore, some may argue that credit data limitations bestow anti-competitive advantages to lenders, which can also lead to higher loan rates and an increased incidence of default. The disciplinary effect from information sharing may also be diminished, resulting in a higher level of consumer indebtedness and a heightened risk of default. Thus, from an economic perspective, privacy laws that limit the reporting of credit data could impose significant financial costs on consumers and the economy as a whole. How these costs are weighed against the benefits of increased financial privacy is a matter for legislative debate.

This report focuses on the potential economic effects of restricting the type of consumer credit information that is reported between financial institutions and credit reporting agencies. For an economic analysis of the privacy debate related to the sharing of financial information among affiliates of the same corporate group, see CRS Report RL31758, Financial Privacy: The Economics of Opt-In vs Opt-Out, by Loretta Nott.

This report will be updated as events warrant.