Consumer Protection in the Financial Services Industry
Consumer Protection in the Financial Services Industry
Consumer Protection in the Financial Services Industry
The financial services industry has undergone considerable modifications over the past decade. These alterations to the financial services sector arise from the effects of unmonitored, careless and opportunistic practices performed by financial institutions in the market. A significant number of banks have experienced consolidation, restructuring or novel formations. Moreover, banks have also experienced deregulation of the financial services they provide. This move has endorsed product and geographic diversification. Notably, the most current feature of the changing trend in the provision of financial services comprises the creation of legislation. These legislative provisions constitute the greatest improvement in the regulation of the financial services industry. They focus on the management of the activities banks and other financial institutions perform. Furthermore, they also focus on the protection of customers by monitoring and restricting practices that possess substantial implications on clients.
Overview of Influential Factors
A majority of factors have exerted significant influence on the financial services sector over the last ten years. These factors, at their relevant points of history, possessed implications on this industry based on the effects they had on customers and investors, companies, financial institutions and the economy in general. In an overview, these factors comprise major events that affected the financial services sector extensively. Foremost, the 1990, 2001 and 2008 Recessions clearly posed an effect on the financial services sector. Consequently, the implementation of the 1999 Gramm-Leach-Bliley Act identified significant financial market realities and endorsed the creation of large financial conglomerates. Lastly, the Enron and WorldCom accounting scandals and the resultant application of the 2002 Sarbanes-Oxley Act further affected the financial services sector.
The 1990, 2001 and 2008 Recession
The Recessions of 1990, 2001 and 2008 illustrated the insufficient accountability of Wall Street investors and large banks in the provision of financial services industry. The 1990-1991 recessions in most Western and Oriental economies originated from the slump experienced in the Savings and Loans sector in the United States based on their relation to the country. This crisis jeopardized the financial health of most Americans. Furthermore, the recession, in terms of a financial contagion, affected countries such as Australia, Canada, European countries such as the United Kingdom and Oriental countries such as Japan. The 2001 recession, in relation to the U.S, illustrated the effect of specific financial services on the economy. Services such as corporate bonds suffered increasing defaults that resulted into considerable FDI losses, business malfunctions, increased troubled loans and overdue credits. The 2008 recession further illustrated the negative implications of financial services such as Mortgage Backed Securities and Collateralized Debt Obligations on the interrelated economies.
The Gramm-Leach-Bliley Act
The passage of the Gramm-Leach-Bliley Act in 1999 identified the complexity of sustaining conventional distinctions amid most of the activities performed by commercial banks, insurance firms and investment banks. Based on this, the legislation relaxed long-term limitations on relationships between these entities. Furthermore, in order to avert the extension of subsidies in deposit insurance and access to the reimbursement and discount window of the Federal Reserve, the Act necessitated the conduction of financial services in a legitimate and separate holding firm. Coincidentally, this move encouraged the creation of numerous subsidiaries by the financial institutions.
The Enron and WorldCom Scandals and the Sarbanes-Oxley Act
The corporate scandals of Enron and WorldCom Corporations necessitated a comprehensive evaluation of the corporate governance and accounting mechanisms in the financial services industry. Accordingly, these scandals illustrated instances of inappropriate behavior within the financial services sector. For instance, the insufficient supervision of business lines by directors’ boards resulted in transactions involving risky Special Purpose Entities (SPEs). These SPEs comprised off balance sheet operations carried out by these corporations further indicating ambiguity on the part of the financial institutions (Markham, 2012). Furthermore, transactions performed by these organizations elevated structure over substance, breached accounting legislations and legal uncertainties for the organizations. Based on these results, the 2002 Sarbanes-Oxley Act emerged to improve corporate governance and accounting mechanisms in the financial services industry (Riotto, 2008).
Protection of Consumers in the Financial Services Industry
Various legislations are experiencing implementation based on the aspects influencing the Financial Services industry. These legislations focus on protecting consumers from potential malpractices that may result from financial institutions. Due to the extensive coverage of the legislations, it is indeed agreeable that customers are receiving better protection in the current financial services industry. One of the areas covered by some of these legislations is information privacy. The information of customers is vital since it is capable of facing utilization for furthering business malpractices. Significant data such as account numbers and credit card numbers are important to protect in order to avoid instances of extortion, sabotage or access of crucial financial information of the customer. In 1995, the European Union acknowledged the Data Protection Directive (Tausig, 2005). The legislation required foreign data exchanges using EU civilians’ private data to receive the same degree of protection that the local country provided.
This provision by the Directive implied that the U.S. organizations focus on ensuring that they provide the same level of protection they accord to U.S citizens whenever they utilize the data of EU citizens (Tausig, 2005). In the United States, the increased concern in protection of customers’ financial information has necessitated further oversight by the Federal Trade Commission (FTC). Accordingly, most U.S civilians express discontent in the protection of financial information in the financial services industry. However, the legislative practices adopted by the FTC over the past decade have illustrated better protection of customers within the financial services industry. For example, in 1997, California’s Charter Pacific Bank traded numerous credit card figures to an adult website firm. The firm proceeded towards billing consumers for access to adult sites and other web pages. However, the FTC sued the firm, which paid damages accruing to US$ 37.5 million (Federal Trade Commission, 2000).
Further instance of increased protection of consumers in the financial services industry corresponds to the Limited Privacy Protections provision in the Gramm-Leach-Bliley Act. The provision focuses on the regulation of financial institutions in terms of disclosure and use of private information. Additionally, the provision offers customers with the ability to expel themselves from the sharing of Nonpublic Personal Information (NPI), especially with the firm’s subsidiaries. The provision also hinders financial institutions from disclosing private information to other non-affiliated entities even in instances where customers opt out of sharing of the information (Sammin, 2004; Gondhalekar, Narayanaswamy & Sundaram, 2007). The Attorney General of Minnesota vs. U.S Bankcorp evidences the positive results of this legislation and its subsequent provision. In 1999, the Attorney General for the state of Minnesota filed a case against U.S Bankcorp after the institution disclosed private information to third party marketers.
There is also further proof of better customer protection in the current financial services industry. The Dodd-Frank Wall Street Reform and Consumer Protection Act (Dodd-Frank Act) is also another legislation that focuses on the regulation of financial institutions in relation to provision of services to consumers (Wilson, 2011). In terms of consumer protection, the Dodd-Frank Act concentrates on protecting customers with autonomy and authority. This objective of the Act materializes in the form of the Consumer Financial Protection Bureau (CFPB). Under Title X of the Act, the CFPB regulates financial institutions through a variety of authorities it receives from the federal government (Wilson, 2011). Foremost, the CFPB conducts lawmaking, oversight and enforcement of laws in relation to federal consumer financial decrees. The CFPB also endorses financial education and handles inquiries and complaints arising from customers. Moreover, the CFPB conducts research on consumer behavioral patterns and monitors financial markets in order to ascertain consumer risks.
In conclusion, it is agreeable that there is better protection of customers in the financial services industry. The occurrences that took place in the last decade necessitated a complete re-assessment of the financial services industry, especially in relation to customers. Factors such as the Recessions and the Enron and WorldCom accounting scandals forced customers and investors to incur significant losses from their investments. Based on these factors, it was important to construct measures that negate further malpractice on the part of the financial institutions. These measures, which comprise legislations such as the Data Protection Directive, the Gramm-Leach-Bliley Act and the Dodd-Frank Act, illustrate better protection of customers within the financial services industry.
Federal Trade Commission. (2000, Sep 7). FTC wins $37.5 million judgment from X-rated web site operators. Retrieved from http://www.ftc.gov/opa/2000/09/netfill.shtm/
Gondhalekar, V., Narayanaswamy, C. R., & Sundaram, S. (2007). The long-term risk effects of the Gramm-Leach-Bliley Act (GLBA) on the financial services industry. Advances in Financial Economics, 12, 361.
Madsen, S., & Vance, C. (2009). Unlearned lessons from the past: an insider’s view of Enron’s downfall. Corporate Governance, 9(2), 216-227.
Markham, J. W. (2012). A financial history of modern U.S. corporate scandals: From Enron to reform. Armonk, NY: M.E. Sharpe.
Riotto, J. J. (2008). Understanding the Sarbanes-Oxley Act: A valued added approach for public interest. Critical Perspectives on Accounting, 19(7), 952-962.
Sammin, K. T. (2004). Any port in a storm: The safe harbor, the Gramm-Leach-Bliley Act, and the problem of privacy in financial services. The George Washington International Law Review, 36, 653-680.
Tausig, A. E. (2005). European Union Data Protection Directive. In A.P. Morriss (Ed.), Cross-border human resources, labor and employment issues: Proceedings of the New York University 54th Annual Conference on Labor (327-337). The Hague: Kluwer Law International.
Wilson, G. P. (2011). Managing to the new regulatory reality: Doing business under the Dodd-Frank Act. Hoboken, N.J: Wiley.
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