API-304:
BEHAVIORAL ECONOMICS AND
PUBLIC POLICY
LECTURE 20
BEHAVIORALLY INFORMED REGULATION
November 21, 2016
Announcements
2
Announcements
3
¨ 
Course assignments:
¤  Over
the course of the semester
n  10
assignments
n  Drop 2 lowest scores
n  Graded ✔, ✔+, ✔- (modal grade is a check)
n  Schedule on p. 5 of syllabus
¤  Today
n  Assignments
1-6 graded, available on Canvas
n  Concept note graded
n  Mid-term graded, will be released later today
n  Assignments 7-8 being graded
n  Assignment 9 due today
n  Assignment 10 distributed today, due Monday 11/28
The Interaction between Individual
Behavioral Biases and Firm Motives
BEHAVIORAL
FALLABILITY
MARKET NEUTRAL AND/OR
MARKET EXPLOITS
WANTS TO OVERCOME
CONSUMER
FALLABILITY
CONSUMER FALLABILITY
Consumers
misunderstand
compounding
Savings context:
•  Banks would like to help
reduce this bias
Borrowing context:
•  Banks would like to
exploit this bias
Consumers
procrastinate
Claiming the EITC:
•  Tax preparation companies
would like to reduce this
bias
Claiming rebates:
•  Retailers would like
to exploit this bias
Barr, Mullainathan and Shafir (2013), “The Case for Behaviorally Informed Regulation”
Discount vs. Surcharge: Does it Matter?
Expressions Hair Design v.
Schneiderman
Quick and Dirty Survey Experiment
Cash Discount
Credit Card Surcharge
Imagine that you have a credit card and
$220 in cash in your wallet/purse. You
buy food at a convenient store.
Imagine that you have a credit card and
$220 in cash in your wallet/purse. You
buy food at a convenient store.
The salesperson says it costs $133.90 if
you pay with credit card (regular price).
If you pay with cash, there would be a
discount (reduction in price) of around
3%. If you pay with cash, the total cost
would be $130.00.
The salesperson says it costs $130 if you
pay with cash (regular price). If you
pay by credit card, there would be a
surcharge (an additional fee) of around
3%. If you pay with a credit card, the
total cost would be $133.90.
Would you pay by credit card or pay
with the $220 in your wallet/purse?
Would you pay by credit card or pay
with the $220 in your wallet/purse?
Survey Experiment Results
100%
80%
60%
82%
89%
Pay Cash (Cost $130.00)
Pay Credit (Cost $133.90)
40%
20%
18%
0%
Cash discount
11%
Credit card surcharge
Behaviorally Informed Regulation:
Suggestions for Mortgage Markets
¨ 
Full information disclosure—in addition to disclosing
interest rates, lenders must also reveal:
¤  Credit
scores
¤  Qualification for other (potentially better for the
consumer) loan products
¤  Rate sheets so consumers know all the options
Potential benefits?
¨  Potential costs? (unintended consequences)
¨ 
Behaviorally Informed Regulation:
Suggestions for Mortgage Markets
¨ 
“Sticky” plain vanilla “default” mortgage
¤  Default:
30-year fixed rate mortgage
¤  Consumers can opt-out to different mortgage
Potential benefits?
¨  Potential costs? (unintended consequences)
¨ 
Behaviorally Informed Regulation:
Suggestions for Mortgage Markets
¨ 
Ban yield spread premium payments to mortgage
brokers
¤  Potential
benefits?
¤  Potential costs? (unintended consequences)
Behaviorally Informed Regulation:
Suggestions for Mortgage Markets
¨ 
Hold mortgage brokers/lenders to a fiduciary
standard (they must act in the best interest of the
borrower)
¤  Potential
benefits?
¤  Potential costs? (unintended consequences)
¨ 
Note—parallel discussion going on right now w.r.t.
retirement savings investment advisors
Behaviorally Informed Regulation:
Suggestions for Mortgage Markets
¨ 
Ex post determination of reasonableness of
mortgage disclosures
¤  Courts
or expert agencies determine, ex post, whether
disclosures effectively communicate key terms to a
typical borrower
n  Is
it accurate?
n  Is it clear? Or confusing?
Potential benefits?
¨  Potential costs? (unintended consequences)
¨ 
Behaviorally Informed Regulation:
Suggestions for Credit Card Markets
¨ 
“Sticky” plain vanilla credit card
¤  Regulators
“bless” a plain vanilla “safe” credit card
¤  Consumers can opt out to a different credit card
n  With
sufficient disclosure
n  Alternative cards would expose banks to greater potential
liability
“Potential benefits?
¨  Potential costs? (unintended consequences)
¨ 
Behaviorally Informed Regulation:
Suggestions for Credit Card Markets
¨ 
Credit card “opt-out” payment plan
¤  Default
payment plan is short term
¤  Consumers can opt-out to either shorter or longer
payment term
“Potential benefits?
¨  Potential costs? (unintended consequences)
¨ 
Payday Loan Outcomes and the
Default Payment Structure
Behaviorally Informed Regulation:
Suggestions for Credit Card Markets
¨ 
Better credit card disclosures
¤  How
long it would take to pay making minimum monthly
payment
¤  How much interest would be paid if making only
minimum monthly payment
¤  Monthly payment that would be required to pay off
balance over “reasonable” time frame
“Potential benefits?
¨  Potential costs? (unintended consequences)
¨ 
Behaviorally Informed Regulation:
Suggestions for Credit Card Markets
¨ 
Regulate late and over limit fees
¤  Allow
firms to charge late and over limit fees in order
to deter “bad behavior”
¤  Firms retain fixed percent of such fees
¤  Remainder goes into public trust to fund financial
education and assistance for troubled borrowers
“Potential benefits?
¨  Potential costs? (unintended consequences)
¨ 
The Credit Card Accountability Responsibility and
Disclosure Act of 2009: Timeline
20
Card Act signed into law on May 22, 2009
August 2009
February 2010
August 2010
•  45-day advance notice to
consumers of changes to
card terms
•  Inform consumers of right
to cancel
•  Bills must be mailed 21+
days before due
•  Opt-in for over limit fees
•  Over limit fee can only be
charged once per bill
•  Bills must include 36month payoff amount
•  Bills must include payoff
time if only minimum paid
•  Fees must be reasonable
and proportions
•  Late fee capped at $25
unless customer has late
payment in last 6 months
•  Late can’t exceed
minimum payment
•  Over limit fees capped at
over limit amount
•  Can’t charge more than
one penalty fee per
violation
•  Can’t charge inactivity
fee
Bank fee Whac-a-Mole:
New charges hit accounts
CNNMoney.com, September 24, 2010
In August, the Card Act banned a variety of
fees -- including certain overdraft and
excessive late charges. But one month later,
banks are increasing existing fees and
finding creative new ways to charge
customers more for credit cards, so-called
"free" checking accounts and banking
services.
Already this year cash-advance fees and
balance transfer fees have risen to 4%, up
from 3% in July last year…"It's like you've
got a sinking boat, where you plug one
hole and another one springs up," said
Curtis Arnold, founder of CreditRatings.com.
"You can shut down one egregious fee, but
that doesn't mean other fees aren't just
going to start popping up elsewhere."
Impact of the CARD Act
22
¨ 
¨ 
¨ 
Agarwal, Chomsisngphet, Mahoney and Stroebel (2014)
Empirical Approach: compare consumer (affected) vs. small
business cards (unaffected) before vs. after reform
Findings
¤ 
Lower borrowing costs through reduced fees
Late fees
n  Total fees
n  Biggest effects for low FICO consumers who pay these fees
n 
No offsetting increase in interest charges
¤  No offsetting reduction in credit volume
¤  Small effect of new disclosure requirements
¤ 
Behaviorally Informed Regulation:
Suggestions for LMI Savings
¨ 
Tax credit to firms offering safe and affordable
transaction accounts to LMI customers
¤  Debit-card
based
¤  No check-writing (è no bounced checks)
¤  No overdraft charges
“Potential benefits?
¨  Potential costs? (unintended consequences)
¨ 
Behaviorally Informed Regulation:
Suggestions for LMI Savings
¨ 
Opt-out bank account for tax refunds
¤  Tax
refund deposited into default account by IRS
¤  Refund process more quickly so consumers get $$$
more quickly
“Potential benefits?
¨  Potential costs? (unintended consequences)
¨ 
One Way of Thinking About Where on to Locate
on the Continuum of Regulatory Responses
Readings for Monday, November 28
¨ 
Behaviorally Informed Disclosure
¤  George
Loewenstein, Cass R. Sunstein and Russell
Golman (2014). “Disclosure: Psychology Changes
Everything.” Annual Review of Economics 6: 391-419.
¤  Marianne
Bertrand and Adair Morse (2011).
“Information Disclosure, Cognitive Biases, and Payday
Borrowing.” Journal of Finance, 66(6): 1865-1893.
¤  Mark
Bernstein and Myles Collins (2014). “Saving
Energy through Better Information: A New Energy
Paradigm?” Contemporary Economic Policy 32(1):
219-229.