Risky, Complex Innovation

At the most recent Community Affairs Research Conference in Washington, D.C. Ben Bernanke, the Chairman of the Federal Reserve warned us about the risks of innovation. Don't fear, he's not ruling it out all together: "innovation, at it's best, has been and will continue to be a tool for making our financial system more efficient and more inclusive."
 The three main sources of financial innovation are financial deregulation, public policies toward credit markets, and broader technological change. The deregulations that happened in the 1970's helped create the national banking networks. These networks allowed the development and marketing of new financial products to be more profitable because the costs of their innovation were distributed.
 From experience, we have seen that financial innovation can help bring in more consumers into the economic mainstream. By innovating the products, services, processes, and technology more consumers can save money, invest, build wealth, and buy homes. This effect is significant today because it can boost our troubled economy if handled correctly.
 However, somewhere along the way innovation went awry.
 Bernanke discussed two forms of consumer credit where innovation took a bad turn: mortgages and credit cards. In the mortgage markets, an automated underwriting system seemed like a good idea in the early 1990's. However, it spread risk more broadly because borrowers in the subprime market were given loans. Credit cards suffered from complexity and lack of transparency to the point where consumers were led to making wrong decisions and were sometimes victims of unfair and deceptive practices.
 To combat the chance that innovation will misfire, Bernanke suggested that "regulation should not prevent innovation, rather it should ensure that innovations are sufficiently transparent and understandable to allow consumer choice to drive good market outcomes."

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Brian Swann
VCU Brandcenter / Creative Brand Management / 804-690-7048
www.brandcenter.vcu.edu / swannbr@gmail.com