Eakinomics: Handcuffs, Lenders, and Access to Credit

The House Democrats have released their latest proposed legislation – the Health and Economic Recovery Omnibus Emergency Solutions (HEROES) Act – to address the economic fallout of the COVID-19 pandemic. It is 1,800 pages, reportedly will cost $3 trillion in federal spending, and contains provisions in the areas of tax, health, education, finance, housing, labor, energy, and lots, lots more. There will be a spirited debate about the specific provisions of the HEROES Act, but one characteristic that jumps out is the enormous scope of the bill. Seemingly, everything that would normally be in the budget gets touched in HEROES, and then some more.

For example, Title IV is entitled “Suspending Negative Credit Reporting and Strengthening Consumer and Investor Protections” and provides that during the emergency (called a covered period), “No person may furnish any adverse item of information (except information related to a felony criminal conviction) relating to a consumer that was the result of any action or inaction that occurred during a covered period.” In addition, “With respect to a person that creates and implements credit scoring models, such person may not, during a covered period (as defined under section 605C), create or implement a new credit scoring model (including a revision to an existing scoring model) if the new credit scoring model would identify a significant percentage of consumers as being less creditworthy when compared to the previous credit scoring models created or implemented by such person.”

So, no bad credit news and no new analysis that is embedded in a credit scoring model.

This is not the first time Congress has meddled in this area. The CARES Act included a provision that “if a furnisher makes an accommodation with respect to 1 or more payments on a credit obligation or account of a consumer, and the consumer makes the payments or is not required to make 1 or more payments pursuant to the accommodation, the furnisher shall report the credit obligation or account as current.”

What’s going on? These provisions seem like a well-intentioned attempt to insulate future borrowers from the unavoidable impacts of the pandemic. Unfortunately, it makes no sense.

To begin, lenders make loans. Not credit rating agencies or credit models or anyone else. The lenders have to decide. Of course, lenders like to have good information on which to base their lending decisions. Putting handcuffs on the system by banning the reporting of adverse credit events means that lenders have less information. They are certainly smart enough to know that there is a lot of credit duress in 2020; not seeing it in the report simply reduces their ability to identify creditworthy borrowers and makes them trust these reports less overall.

More important, who does that hurt? A high-income individual with an uninterrupted work history and lots of assets is going to get the credit card, car loan, or mortgage. A low-income individual trying to get the first credit card after recovering from unemployment and getting a new job? In the absence of any way to identify if this individual can manage finances through the duress – if not perfectly, better than comparable-looking others – all such borrowers will get shut out. The provision will backfire. The same story holds true for a new credit model, which is simply a more effective summary of the existing information.

HEROES will have many provisions that will not make the next round of pandemic legislation. This should be one of them.