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«Introduction Why do we regulate markets? Theories of regulation in the public interest have emphasized the role of governments either in fixing ...»

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Regulating for Legitimacy: Consumer Credit Access in France and America


Why do we regulate markets? Theories of regulation in the public interest have

emphasized the role of governments either in fixing market failures to promote greater

efficiency, or in restricting the efficient functioning of markets in order to pursue public welfare

goals.1 In either case, features of markets serve to justify regulatory intervention. I argue that this

causal logic must sometimes be reversed; that, for certain areas of regulation, its function must 1 Because I am interested in regulation in the public interest, I set aside theories of regulation based on regulatory capture by narrow economic interests in order to limit or control market access by competitors, as well as cases of “reverse capture” in which regulatory agencies

attempt to dominate a sector. Giandomenico Majone, “From the Positive to the Regulatory State:

Causes and Consequences of Changes in the Mode of Governance,” Journal of Public Policy 17/2 (2008), p 162; Steven K. Vogel, Freer Markets, More Rules: Regulatory Reform in Advanced Industrial Countries (Ithaca: Cornell University Press, 1996), p 15; Daniel Carpenter, Reputation and Power: Organizational Image and Pharmaceutical Regulation at the FDA (Princeton: Princeton University Press, 2010), pp 38-39.

1 be understood as making markets legitimate.2 Based on a comparative historical study of consumer credit markets in the United States and France, I examine the sources of national regulatory divergence. In France, usury and data privacy laws restricted lenders’ ability to offer credit to riskier borrowers. In the United States, a different set of regulations—including centralized credit rating, liberal pricing policies, and liberal bankruptcy provisions—promoted broad access to credit for the American public. What is important about these regulatory responses was the role they played in legitimizing what had historically been at best a marginal economic activity. Although the regulatory outcomes were different, in each country, a series of regulatory interventions by the state transformed a formerly disreputable small lending sector into a legitimate economic activity.

Among the advanced industrialized countries, France and the United States represent nearly opposite poles in consumer credit use. Americans have been heavy users of consumer credit since the interwar period; the French have relied relatively little on consumer credit. In 1955, non-mortgage consumer debt averaged 15% of household disposable income in the United States, compared to 0.3% in France. Fifty years later, in 2005, US non-mortgage household debt had risen to 33% of disposable income.3 French household debt at the time was still below 15% 2 Daniel Carpenter, “Confidence Games: How Does Regulation Constitute Markets,” in Edward J. Balleisen and David Moss, eds., Government and Markets: Toward a New Theory of Regulation (Cambridge: Cambridge University Press, 2010).

3 From the late 1990s, households began rolling over consumer credit into home equity loans. The 33% figure includes 25% credit card and installment debt, plus an additional 8% of extracted equity used to pay off existing debt or make new consumer purchases. Alan Greenspan 2 of disposable income. (See figure 1.) This difference is puzzling in part because of the technical skill and economic success of French lenders. The consumer finance companies that emerged in postwar France were quick in assimilating new lending techniques developed in the United States. From the late 1980s, when consumer use of credit grew more common across Europe, the French company Cetelem emerged as the dominant player.4 Consumer lending rates were also roughly the same in both countries. Given comparable know-how in originating consumer loans, and similar lending rates, why were American and French consumer credit markets so different?

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Using records from lenders and regulators, I argue that differences in credit practice derive from the ways in which consumer credit markets came to be legitimated in the two countries. In the United States, a coalition of non-governmental organizations (NGOs) and commercial lenders helped to construct the market for consumer credit as a legitimate response to an evolving set of societal problems. Over the course of nearly a century, politicians on the left and right supported policies that promoted credit access as a form of social welfare. In France, NGOs were less active and commercial banks stayed away from consumer lending.

Lending instead came to be dominated by dedicated consumer finance companies that were required to operate under close regulatory scrutiny. If American policies emphasized the value of consumer access, the French response emphasized the value of consumer protection. In both cases, the point of government regulation was to construct credit markets as socially and politically legitimate. Once established, these different approaches to consumer credit became and James Kennedy, “Sources and Uses of Equity Extracted from Homes,” Oxford Review of Economic Policy 24/1 (2008), pp 120-144.

4 In 2008, Cetelem was renamed BNP Paribas Personal Finance.

3 locked in over time. Hence, when France briefly experimented with deregulated consumer credit markets in the mid-1980s, social activists on the left and right demanded that the government step back in to re-regulate the market. In the United States, rising personal bankruptcy rates tied to consumer over-indebtedness in the 1990s and 2000s failed to elicit a regulatory response from policymakers on the left or right despite the clear social costs. The financial crisis of 2008 traces its roots in part to the resulting regulatory void.

This process of legitimation by regulation is not unique to consumer credit. Other market sectors, including life insurance and genetic technologies, have relied on regulatory interventions in order to shed prior public opprobrium.5 If this legitimating function of regulation is pervasive, it suggests that the study of regulation might benefit from a strong dose of historical institutionalism.6 Rather than focus on the functional logic of market failure or the welfare politics of market externalities, we might better explain existing national differences by studying the specific historical contexts in which new market sectors come to be perceived as legitimate in society. To the extent that different strategies of legitimation become locked in over time,

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the United States (New York: Columbia University Press, 1979); Julia Black, “Regulation as Facilitation: Negotiating the Genetic Revolution,” The Modern Law Review 61/5 (1998): 621See, for example: Daniel Carpenter, Reputation and Power: Organizational Image and Pharmaceutical Regulation at the FDA (Princeton: Princeton University Press, 2010); David Moss, When All Else Fails: Government as the Ultimate Risk Manager (Cambridge: Harvard University Press, 2004).

4 historical institutions may play a critical role in explaining variation in contemporary regulatory outcomes.

The article is organized as follows. The first section introduces the two cases that are to be compared. It presents two sets of theories that are commonly evoked to account for regulatory differences, then proposes an alternative theory based on the role of regulation in legitimating markets. The second section applies this alternative framework to explain patterns of consumer lending in the two countries. The third addresses sources of national differences in consumer credit rating. The final section traces the historical evolution of the link between credit and welfare in the two countries.

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The rise in consumer credit use across the advanced industrialized countries, together with a growing interest in institutions that promote credit access in developing countries, has focused academic attention on the sources of cross-national differences in credit use. Two kinds of explanations have dominated the debate. One sees credit markets as beset by problems of adverse selection that lead to an under-serving of risky borrowers.7 This strain of research has 7 Faced with a combination of honest-but-risky borrowers and dishonest borrowers who did not intend to repay, the latter group would be less price sensitive and thus over-represented among applicants. Joseph E. Stiglitz and Andrew Weiss, “Credit Rationing in Markets with Imperfect Information,” American Economic Review 71/3 (1981): 393-410;

5 emphasized the importance of information sharing among lenders to limit non-payment losses.8 Credit research has accordingly focused on credit rating agencies as a driver of credit extension, and on the use of credit data to select borrowers and set interest rates. 9 In micro-finance and other social lending institutions, social ties have been seen as an alternative means to overcome the problem of adverse selection.10 Yet the perceived riskiness of consumer borrowers was, historically, largely a myth. During the Great Depression, consumer loans showed higher repayment rates than any other class of borrowing.11 In France during World War I, lenders in the industrial northeast that closed their doors during German occupation were able to collect on most of the debts after the war ended. And when the United States enacted a liberal consumer bankruptcy policy in 1978, including a provision for automatic discharge of debts, lenders appear not to have worried about its impact on non-payment rates, and raised no objections. Observers frequently but mistakenly attribute the high cost of consumer credit to the risk associated with unsecured personal loans, but the reality is more mundane. Consumer loans were expensive 8 Tullio Jappelli and Marco Pagano, “Information Sharing, Lending and Defaults: CrossCountry Evidence,” CSEF Working Paper, no. 22, 1999; Tullio Jappelli and Marco Pagano, “Information Sharing in Credit Markets,” Journal of Finance 48/5 (1993).

9 Akos Ronas-Tas, “Consumer Credit in Transition Economies,” in Victor Perez-Dias, ed., The European Experience in Comparative Perspective (London: Berghahn Books, 2009).

10 Asif Dowla, “In credit we trust: Building social capital by Grameen Bank in Bangladesh,“ Journal of Socio-Economics 35/1 (2006), 102-122.

11 Michel Schlosser and Gérard Tardy, Les cartes de crédit (Paris: Dunod, 1971).

6 (25%-40% was typical in the early postwar period) primarily because of the unusually high administrative costs associated with writing, tracking, and collecting small loans.12 The second kind of explanation focuses on the potential social costs associated with liberal credit access. The general proposal is that governments intervene in markets to manage an inherent trade-off between market efficiency and social equity.13 In a range of markets, including labor, capital and product markets, governments regulate in order to curb the socially unacceptable externalities that unfettered markets would generate.14 How much different states are willing to compromise efficiency in order to promote equality depends in turn on institutional

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1427200301, box 283, Comité national du Crédit, Comité du crédit a court terme, December 1953-June 1961, Meeting of the Comité du crédit à court terme, June 19, 1961, p 21.

13 Joseph E. Stiglitz, “Government Failure vs. Market Failure: Principles of Regulation,” in Edward J. Balleisen and David Moss, eds., Government and Markets: Toward a New Theory of Regulation (Cambridge: Cambridge University Press, 2010), p 22.

14 Jonas Pontusson, Inequality and Prosperity: Social Europe versus Liberal America (Ithaca: Cornell University Press, 2005); André Sapir, “Globalization and the Reform of European Social Models,” Journal of Common Market Studies 44/2 (2006), pp 369-390;

Guandomenico Majone, “From the Positive to the Regulatory State: Causes and Consequences of Changes in the Mode of Governance,” Journal of Public Policy 17/2 (2008), p 162; Gosta Esping-Andersen, Three worlds of Welfare Capitalism (Princeton: Princeton University Press, 1990).

7 and political features that are distinctive to their political and historical context.15 In consumer credit markets, the problem was that credit access appeared to be regressive in its consequences.

In general, the interest paid on outstanding credit reduces borrowers’ purchasing power over time. But, because the administrative costs of making loans was high and fixed, smaller loans faced higher interest charges. To the extent that the working class and poor borrowed smaller amounts, they tended to reduce their purchasing power more. This effect implied that countries focused on the welfare of the poor and working classes should have an interest in regulation that limited credit access. Such regulation could take a variety of forms: usury ceilings, restrictions on downpayment and repayment periods, direct quantitative limits on extended credit, restriction on advertising and collections practices, limitations on data sharing and collections practices, and liberal bankruptcy provisions that weakened the contractual claims of lenders. Each of these regulations has been interpreted as limiting the supply of credit in order to limit the social costs of free credit markets.16 The problem with this efficiency-versus-equity argument as it relates to consumer credit markets is that neither American nor French policymakers believed that such a trade-off existed.

In the United States, policymakers on the left and right came increasingly to see consumer credit as supporting, rather than undermining, social welfare. In their view, more efficient consumer credit markets were welfare enhancing. In France, early postwar regulators restricted credit not 15 André Sapir, “Globalization and the Reform of European Social Models,” Journal of

Common Market Studies 44/2 (2006): 369-390; Jonas Pontusson, Inequality and Prosperity:

Social Europe versus Liberal America (Ithaca: Cornell University Press, 2005).

16 Theresa A. Sullivan, Elizabeth Warren, and Jay Lawrence Westbroook, As We Forgive our Debtors (Washington, DC: Beard Books, 1999).

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