The ABC’s of Reg CC

Christopher Caldwell comes to praise former Obama administration czarina Elizabeth Warren in his Weekly Standard article “Elizabeth Warren, closet conservative.” Warren is the Harvard Law School professor who dreamed up the abominable Consumer Financial Protection Bureau that went into operation last month. Yesterday I quoted Professor Todd Zywicki’s devastating explication of the statistical shenanigans that hoodwinked Caldwell.

I noticed that Caldwell also made this statement in his article, finding another reason to praise Warren in addition to the featured one that fooled him:

Almost anyone who uses a bank will have a story of making a $1,000 deposit drawn on a bank across the street, meant to cover four $200 checks written two days later and cashed four days after that​—​and seeing the bank put a hold on the deposit just long enough so they can collect $35 “bounce” fees on each of the four checks (although the checks do not actually bounce!).

Caldwell comments: “Warren was outraged at such chicanery long before the economy tanked. That is why she retains so much credibility among neutral observers, and why her approach to the finance crisis took the consumer-protection form that it did.” He believes his example illustrates a “sneaky game of devious tricks and arbitrary penalties.”

I worked as an attorney for a bank holding company for 12 years and necessarily came to have some understanding of the issues touched on in Caldwell’s statement. I did not understand the first thing about the issues before going to work for the company. It seems to me that Caldwell is in the cloud of unknowing that enveloped me before I went to work in the bank legal department. (I left the company at the end of 2009. The applicable laws and regulations were being revised at a breakneck pace at the time I left, so I can’t say that my knowledge is up to date.)

What’s wrong with Caldwell’s example of bank “chicanery”? The answer depends on an understanding of the Federal Reserve’s Reg CC. Reg CC prescribes the periods within which banks must make funds deposited into demand deposit accounts available to their customers. The information is summarized in account opening packages that we all receive and toss when we open checking or saving accounts.

Under Reg CC, the length of time before which a bank must make deposited funds available generally depends on the nature of the deposit — cash, certified check, government check, local check (drawn on a bank within the local processing region), or nonlocal check (drawn on a bank outside the local processing region), and so on. The periods specified gave some recognition to the time it takes to process a check.

The depositary bank has no idea when a deposited check is accepted at the bank on which it is drawn. If the deposited check is rejected by the drawee bank for some reason — usually because the check is fraudulent or the account on which it is drawn is NSF — but the funds have been withdrawn by the customer who deposited the check, the depositary bank might take a loss which could well be substantial.

For local and nonlocal checks, Reg CC provided basic 2-day and 5-day funds availability periods. Banks are required to make the funds deposited on a local check available to the customer within 2 business days. Banks were required to make funds deposited on a nonlocal check available within 5 business days. Last year the Fed migrated to a single check processing region. The distinction between local and nonlocal checks under Reg CC has been abrogated. Accordingly, the longest standard delay for the availability of funds on deposited checks is now two days, though the exceptions set forth in Reg CC remain.

The “bank across the street” in Caldwell’s example must have been the local branch of an out of state (and out of processing region) bank. And the fees to which Caldwell refers are NSF fees, imposed whether the bank honored or dishonored the customer’s checks that, in Caldwell’s example, are drawn on funds that the bank has not yet made available. Though not thrilled by NSF fees, many bank customers are, unlike Caldwell, happy to have their NSF checks honored rather than rejected.

Caldwell asserts (with an exclamation point) that the checks do not actually bounce. That isn’t necessarily or always the case. If they aren’t dishonored, it’s because the bank judges its chances of loss under the circumstances to be low and chooses to honor them. Bank regulators have promulgated new regulations that limit the imposition of NSF fees, and some banks have in addition reformed their own NSF fee practices, but the rules on funds availability remain as set forth in Reg CC (as revised to account for the merging of check processing regions).

Even under the old old funds availability system, Caldwell could have obtained 2-day availability of the funds deposited via the $1,000 check in his example. He could have deposited the check in an ATM, in which case the funds would have been made available in two days, or he could have walked across the street to the bank on which the check was drawn and negotiated it for cash.

Did the Fed funds availability rules and bank NSF practices amount to “chicanery,” as Caldwell asserts? Readers can draw their own conclusions.

The recent reforms in funds availability and NSF rules will, like all such regulatory reforms, have unintended consequences. It would be interesting to see an assessment of the reforms by an informed observer, and I wish Caldwell were the man, but in this case he is not.