Is It Time to Occupy Credit Scores?

When you get down to it, consumer credit data is a utility, the influence of which extends to all corners of life through its three-digit credit score manifestation.  One's credit score not only impacts credit card and loan eligibility, but also affects interest rates, insurance premiums, the likelihood of lease approval, job prospects, and so on and so forth.  The widespread use of this information, and therefore its supreme importance, is precisely why we must listen to Occupy Wall Street's Alternative Banking Group when it calls for credit reform, while at the same time ignoring most of the group's specific recommendations.

The credit reporting and scoring system as it currently exists is deeply flawed.  It is characterized by a strong blend of conflicts of interest and favoritism that both inhibits proper financial management from a consumer perspective and hinders overall innovation within the industry.

Take, for example, the case of Experian and FICO.  As you may or may not know, the FICO score is the most popular credit score among lenders.  We all actually have three of them, each of which is based on one of our major credit reports (i.e., Experian, Equifax and TransUnion).  Well, Experian, in an attempt to devalue the FICO score and promote its replacement with an in-house alternative, a few years ago stopped allowing the sale of its FICO score to consumers.  In other words, in order to further its own business objectives, Experian has been intentionally withholding from consumers some of the information most integral to making proper financial decisions.

The practical effect of such tactics?  Well, imagine you're shopping around for a mortgage, and all of the lenders in your area use the Experian FICO score to evaluate applicants.  Experian's refusal to allow consumer access to such scores means you'll largely be in the dark about what terms you'll be able to get.  This will, in turn, make figuring out how expensive a home you can afford much more difficult.

Make no mistake about it, though: the issue is not Experian's alone.  Credit bureaus routinely play games with our financial data in order to further their own interests, rather than those of the folks providing the data in the first place.

This problematic conflict of interest was one of the issues touched on by the Occupy Wall Street (OWS) financial arm in its late February letter to the Consumer Financial Protection Bureau's head man, Richard Cordray.  The group also called for increased governmental regulation and transparency within the credit reporting and scoring system.  More specifically, OWS suggested that there be a single credit score, that the underlying formula of this score be made publically available, and that consumer credit reports contain corresponding credit scores.

Sounds good, no?  No.  It would certainly be easier for consumers to predict their likelihood of approval for financial products as well as the interest rates they'd be offered, but it would also neutralize the primary differentiating factor between banks: underwriting sophistication.  

The name of the game in consumer lending is to more accurately predict consumer risk than the other guy.  Whoever does it best can structure product offerings and approval criteria in such a way as to ensure maximum profitability.  Those who struggle at it will go out of business.  It's corporate Darwinism 101.  Preventing this natural hierarchy from taking shape by enforcing uniform underwriting standards would therefore kill bank competition and ultimately hurt consumers and the economy.

Proprietary credit scoring is constantly being refined for the simple reason that it's not perfect, and a percentage of what underwriters foresee as being the most responsible consumers inevitably default on their obligations.  Because banks have to take these people into account, offers can become only so attractive until a better credit score is introduced.  This is where the aforementioned inter-bank competition comes in.  It spurs underwriting innovation, allowing banks to more accurately account for these folks and transform the cost of their would-be defaults into more competitive loan terms.

We therefore need to foster innovation rather than inhibit it and promote free-market principles as opposed to stifling competition.  Doing so is rather simple.  The Consumer Financial Protection Bureau merely needs to require that credit bureaus sell consumer financial data at a uniform price to any company with consent to access it.  With more companies able to take a crack at creating the best derivative credit score and inventing new ways to help consumers manage their credit, it's only a matter of time before improvements are made and a race to the top ensues.

In short, much like an electric company cannot selectively price out consumers and businesses, the ubiquity and importance of credit data warrants a level playing field for distribution.

Odysseas Papadimitriou is a former Capital One senior director and the current CEO of Card Hub, a website that helps consumers compare credit cards.

When you get down to it, consumer credit data is a utility, the influence of which extends to all corners of life through its three-digit credit score manifestation.  One's credit score not only impacts credit card and loan eligibility, but also affects interest rates, insurance premiums, the likelihood of lease approval, job prospects, and so on and so forth.  The widespread use of this information, and therefore its supreme importance, is precisely why we must listen to Occupy Wall Street's Alternative Banking Group when it calls for credit reform, while at the same time ignoring most of the group's specific recommendations.

The credit reporting and scoring system as it currently exists is deeply flawed.  It is characterized by a strong blend of conflicts of interest and favoritism that both inhibits proper financial management from a consumer perspective and hinders overall innovation within the industry.

Take, for example, the case of Experian and FICO.  As you may or may not know, the FICO score is the most popular credit score among lenders.  We all actually have three of them, each of which is based on one of our major credit reports (i.e., Experian, Equifax and TransUnion).  Well, Experian, in an attempt to devalue the FICO score and promote its replacement with an in-house alternative, a few years ago stopped allowing the sale of its FICO score to consumers.  In other words, in order to further its own business objectives, Experian has been intentionally withholding from consumers some of the information most integral to making proper financial decisions.

The practical effect of such tactics?  Well, imagine you're shopping around for a mortgage, and all of the lenders in your area use the Experian FICO score to evaluate applicants.  Experian's refusal to allow consumer access to such scores means you'll largely be in the dark about what terms you'll be able to get.  This will, in turn, make figuring out how expensive a home you can afford much more difficult.

Make no mistake about it, though: the issue is not Experian's alone.  Credit bureaus routinely play games with our financial data in order to further their own interests, rather than those of the folks providing the data in the first place.

This problematic conflict of interest was one of the issues touched on by the Occupy Wall Street (OWS) financial arm in its late February letter to the Consumer Financial Protection Bureau's head man, Richard Cordray.  The group also called for increased governmental regulation and transparency within the credit reporting and scoring system.  More specifically, OWS suggested that there be a single credit score, that the underlying formula of this score be made publically available, and that consumer credit reports contain corresponding credit scores.

Sounds good, no?  No.  It would certainly be easier for consumers to predict their likelihood of approval for financial products as well as the interest rates they'd be offered, but it would also neutralize the primary differentiating factor between banks: underwriting sophistication.  

The name of the game in consumer lending is to more accurately predict consumer risk than the other guy.  Whoever does it best can structure product offerings and approval criteria in such a way as to ensure maximum profitability.  Those who struggle at it will go out of business.  It's corporate Darwinism 101.  Preventing this natural hierarchy from taking shape by enforcing uniform underwriting standards would therefore kill bank competition and ultimately hurt consumers and the economy.

Proprietary credit scoring is constantly being refined for the simple reason that it's not perfect, and a percentage of what underwriters foresee as being the most responsible consumers inevitably default on their obligations.  Because banks have to take these people into account, offers can become only so attractive until a better credit score is introduced.  This is where the aforementioned inter-bank competition comes in.  It spurs underwriting innovation, allowing banks to more accurately account for these folks and transform the cost of their would-be defaults into more competitive loan terms.

We therefore need to foster innovation rather than inhibit it and promote free-market principles as opposed to stifling competition.  Doing so is rather simple.  The Consumer Financial Protection Bureau merely needs to require that credit bureaus sell consumer financial data at a uniform price to any company with consent to access it.  With more companies able to take a crack at creating the best derivative credit score and inventing new ways to help consumers manage their credit, it's only a matter of time before improvements are made and a race to the top ensues.

In short, much like an electric company cannot selectively price out consumers and businesses, the ubiquity and importance of credit data warrants a level playing field for distribution.

Odysseas Papadimitriou is a former Capital One senior director and the current CEO of Card Hub, a website that helps consumers compare credit cards.