A landmark court ruling on Wells Fargo's outrageous overdraft scam has the potential to return hundreds of millions of dollars in stolen funds to consumers all over the country. But like many of the banking scandals from the past decade, there's more to the story than simple bank predation. When banks devised this new program to swindle their own customers, bank regulators did not merely look the other way, they actively encouraged the behavior by writing a new rule approving a practice that courts now believe to be unfair and deceptive. The Wells Fargo case should be viewed as a clear example of why Elizabeth Warren ought to head the new Consumer Financial Protection Bureau.
The overdraft scam that Judge William Alsup slapped down yesterday is not unique to Wells Fargo-- every big bank in the country has been doing it for years, and if it's never happened to you, it's probably happened to your friends or family. Banks make a lot of money from overdraft fees-- $38 billion last year, compared to a combined industry profit of just $12.5 billion. They don't make that money by accident. Internal company emails and memos from the Wells Fargo case show bankers spending a lot of time figuring out how to maximize the number of overdraft charges they can hit their checking customers with.
One way is by changing the order in which your transactions are processed. Most people think that their checks and debit card purchases are processed in the order that they make them. But that's not how banks actually do it. Instead, they wait for you to make several purchases, and then process the most expensive purchases first. This method pushes a customer's balance to zero faster than the honest way that actually reflects buying habits. And the sooner your balance goes to zero, the more overdraft fees the bank can hit you with.
Say you've got $80 in your checking account, and you decide to pay some bills and run some errands. You spend $30 on gas and another $20 on your water bill. Later, you head to the grocery store and spend $81—oops!—on groceries. To reasonable people, it looks like you're going to get hit with an overdraft fee. That last purchase put you over the line. But instead, the banks reorder your transactions, processing the groceries first. Now you're below zero, and they can charge additional fees for your gas and water bills. Wells Fargo charged up to $39 per overdraft. This one mistake cost you $117.
"The bank's dominant, indeed sole, motive was to maximize the number of overdrafts and 'squeeze as much as possible' out of customers who spent more than they had in their accounts," Alsup wrote in his ruling.
In other lines of business, this kind of scheming is known as "backdating," and it's considered "fraud." But Wells Fargo officials are unlikely to be prosecuted for this outright theft, because they were aided and abetted by the top federal bank regulatory agency, the Office of Comptroller of the Currency. In 2004, the OCC issued an interpretive letter granting formal approval to overdraft backdating.
Thanks to yesterday's ruling, every dime that Wells Fargo took from its customers with this ridiculous backdating scam will have to be repaid. The company will certainly appeal the verdict, and the court case itself is only a part of the overdraft story. It's not at all obvious that consumers really want overdraft "protection," and those that do certainly don't want to be conned into paying out unnecessary fees. An easy way to prevent this kind of abuse is to notify consumers that a purchase will their account, and require an additional step authorizing the charges—the same way you have to approve ATM fees before banks take your money.
All of this shows how important the new Consumer Financial Protection Bureau is going to be. The CFPB will have much better institutional incentives than the OCC, which is structured to focus on bank profitability first, and consumer protection as an afterthought. The CFPB, by contrast, will have no duties other than keeping the public safe from predatory bankers.
But who runs the agency will be just as important. The OCC has had a weak consumer protection record for years, but its current slate of managers has gone to previously unthinkable lengths to protect banks at the public's expense. Whoever President Barack Obama appoints to run the CFPB will be setting the tone for an agency for years to come. That's why Obama must appoint Elizabeth Warren to head the CFPB. She's spent her entire career protecting consumers from abusive banks, she knows the tricks and traps, but she also understands that families still need credit—they just don't want to be conned into lousy deals. Nobody else has her level of expertise on these issues, her strong record as a reformer, or her commitment to finding the right solutions to complicated problems.
The CFPB is designed to be a responsible advocate for consumers. Elizabeth Warren has spent her entire career doing just that. If we want to prevent future scams like the one Wells Fargo just got in trouble for, we'll need Elizabeth Warren at the CFPB.