Everyone say hello to the era of libertarian paternalism, pragmatism, and consumer protection for financial services regulation.
I don’t mean to brag, but I have been telling people this was coming for a while. I have been telling people that the financial services industry needed to reinvent itself – and that if it didn’t provide consumers greater value for their money, market forces or the government would step in and ”help” it do so. That’s one of the reasons my partners and I decided to found Voyant — to provide a new model for consumer interaction in the financial services industry. The recent market turmoil, scandals and administration change have greatly expedited the timetable for change. And now the government is reacting to the recent crises with a swift and serious plan.
Several consumer financial protection measures are already making their way through the legislative process. Some have big names like the Consumer Financial Products Administration, while others have more innocuous ones such as the 401(k) Fair Disclosure and Pension Act of 2009 and the Financial Regulatory Reform Plan. And don’t forget, we are only in the beginning stages of this new, uncharted era.
A key element of these new measures is the use of behavioral science in public policy to develop new “choice architectures” that can sensibly nudge people toward the best decision without restricting their freedom of choice. For those not familiar with these concepts and the term “libertarian paternalism”, I highly recommend the book “Nudge”, written by Richard Thaler, a University of Chicago professor of behavioral science and economics, and Cass Sunstein, a Harvard Law professor, both with very strong ties to the Obama administration.
As the premise goes, for consumers to have free choice, they require transparency and access. This is very apparent in the 401(k) Fair Disclosure bill and the Financial Regulatory Reform Plan, which seek to remove conflicts related to investment advice. Both measures aim to hold investment advisers to a “fiduciary” standard, rather than the current “suitability” standard. I’m willing to bet that a large percentage of consumers believe their financial advisers are supposed to do what is in their client’s best interest (fiduciary standard), rather than provide their clients advice that is good enough but might actually be in the adviser’s best interests (suitable standard). The government is now invoking a “behavioral science” approach to legislation by removing this conflict and forcing the industry to live up to the standards expected by consumers.
While this might seem like a subtle change to most outsiders, it is going to wreak havoc in the industry. Conflicts are so ingrained in financial institutions’ business, that meeting the fiduciary standard is going to require sweeping changes, especially around advisor–consumer interaction. (Simply creating a giant new disclaimer page listing all of the conflicts will not meet the standard, since behavioral science would show that people do not read disclaimers. I never do.)
To meet the fiduciary standard, advisers are going to have to recommend the best financial products for their clients. This is going to be almost impossible outside the context of a larger financial plan that considers the client’s personal life needs and goals. The current model of simply running a client through a risk questionnaire, suggesting an asset mix, and picking assets to fix this mix won’t work, even if you remove any potential conflicts. Unless you know what the client hopes to do with their money, and when they hope to access their money, how do you recommend the right set of financial products and meet the fiduciary standard?
Whether using Voyant or other systems, the new standards are going to push financial enterprises to provide simple and clear advice to consumers, and to take a more holistic approach to planning that considers their larger needs and goals. To do so, enterprises will need to adopt new processes and technologies that engage clients in more collaborative, interactive ways.
A non-conflicted and transparent system will be good for everyone. The early adopters will have a huge advantage and be able to quickly reengage clients and rebuild their brands. And consumers will benefit from a greater sense of security and well-being, knowing they have made the right choices for the right reasons.
