Credit Slips

Hotel California (Deposit Account Edition)

Adam Levitin — 2025-09-14T20:55:29-05:00

You can checkout anytime you like, but you can never leave. That's how I'm feeling about one of my banks. I recently decided to close a particular bank account. Turns out that the bank, which allows me to open new accounts on-line, won't allow me to close accounts except in person. Having to go into a branch is a minor inconvenience, and I'm sure that's the point: the added friction makes it that much harder to break up with the bank and gives the bank another opportunity to try to sell me additional services. What's more, it gives the bank another shot at levying some fees on the account for one reason or another.

If pressed, I'm guessing that the bank would claim some security issue means that they need to verify my identity in-person. That's nonsense: they had no problem letting me clear out the balance via an on-line transaction. This is just about making the deposit account relationship stickier and therefore less competitive.

So if there's still anyone home and listening at CFPB, this should be low-hanging non-partisan fruit: use your UDAAP authority to put out a Hotel California rule that will make it easier for consumers to voluntarily close their deposit accounts. Think of this as the deposit account version of click-to-cancel. If the consumer is able to transfer all funds out of the account on-line—that is if the bank offers on-line funds transfers and there's no hold on the account at the time—the consumer should also be able to close the account entirely on-line.

Bill Pulte's Looking for Mortgage Fraud in the Wrong Place

Adam Levitin — 2025-09-12T21:25:22-05:00

Reuters is reporting that Lisa Cook scheduled her Atlanta property as a vacation home on a loan estimate from her lender. That indicates that the lender was aware that the property was not going to be used as Cook's principal residence. It's going to be pretty hard to sustain a mortgage fraud prosecution in the face of the loan estimate.

Consistent with the indication that the Atlanta property was a vacation home, Cook didn't claim a primary residence tax deduction for it (unlike what Pulte's own parents did for their properties!).

If Reuters was able to unearth the Cook loan application materials, surely Pulte should have been able to do so. Either Pulte was wildly reckless by making the referral without pulling the loan file, including the application materials, or he proceeded despite having the loan file, which suggests that he acted maliciously. Regardless of whether Pulte acted recklessly or maliciously, his actions here are more than cause for his removal.

The Cook's declaration of the property as a second home also suggests that if there was fraud—and it's far from clear that there was—that it wasn't by Cook, but by either the loan officer or her credit union. The loan officer might have wanted to facilitate the loan closing, while the credit union would have gotten a better price from Fannie/Freddie for a principal residence mortgage than for a second home mortgage. We'd need a lot more information to know if there was fraud and by whom, but if Cook had alerted the credit union that the property was a second home, I can't see how this could rise to a criminal issue for her.

Russell Vought Is Wasting Government Resources

Adam Levitin — 2025-09-12T20:03:06-05:00

The CFPB has proposed a rule to constrain when it can designate non-banks as subject to supervision. The rule is one of very narrow application: only 20 institutions have ever been so designated over 14 years.

There's a lot of silliness with the proposed rule, which eliminates none of the uncertainty it claims to address, but here's what's really galling: the rule is expected to reduce the total number of exams conducted by the CFPB by no more than one! What's more the Bureau estimates that an exam costs a non-bank about $27,000 in labor costs. So the Bureau has undertaken the promulgation of an entire rule in order to save one entity $27,000/year. It will cost the Bureau more than $27,000 to promulgate this rule, which will also increase the Bureau's litigation risk. Talk about a waste of government resources. This might well be the most inefficient regulation I've ever seen.

I thought this administration was about getting rid of needless regulations. And here it is creating one. Perhaps instead of a comment letter, I should have filled out the form on Regulations.gov to "Submit Your Deregulatory Recommendations." smh.

Typepad and the Future of Credit Slips

Bob Lawless — 2025-09-12T13:50:30-05:00

As many of you have seen, Typepad is closing down on September 30. They have hosted this blog since 2006.

The good news is that we are moving the blog to a WordPress site. The URL, creditslips.org, will remain the same. We hope the new format is a little cleaner than our current site. We hope that work is done in a week or two. Until then, it seems that Typepad is having more problems as we get closer to the shutdown date. In fact, it ate the first draft of this posit. Please have patience if the Typepad site suffers from periods when it is not accessible.

Russell Vought Is Wasting Government Resources

Adam Levitin — 2025-09-12T12:58:52-05:00

Revision of Chinese Enterprise Bankruptcy Law Leaves Natural Persons Waiting

Jason Kilborn — 2025-09-09T14:35:14-05:00

The Chinese National People's Congress yesterday began reviewing a set of major revisions to the 2007 Enterprise Bankruptcy Law. Details on this first major reform effort in nearly 20 years are not publicly available (!), but Xinhua reports that it involves more than 160 new and revised provisions on such topics as post-filing property transfers, optimizing reorg provisions, "and enhancing judicial cooperation in cross-border insolvencies". This all sounds promising. What's not mentioned? A long-awaited and much-debated national rollout of personal bankruptcy. Pre-eminent bankruptcy scholar Li Shuguang has characterized the current enterprise-only approach as "only half of a bankruptcy law," and he had earlier noted that "c]onditions for introducing a personal bankruptcy system are now largely in place, [including] improved institutional frameworks, shifting societal views, and local pilot programmes" in such places as Shenzhen and Wenzhou, among others. Nonetheless, despite a worrying rise in consumer debt and accompanying social tensions, national authorities continue to resist introducing proper treatment protocols for the personal (and small business) side of the bankruptcy hospital.

Another pre-eminent Chinese bankruptcy scholar years ago taught me a proverb that captures this situation perfectly (as 4-character chengyu distillations of Chinese wisdom so often do): 因噎废食 (yin ye fei shi), meaning "not eat for fear of choking." This phrase encapsulates the danger of being overly conservative about engaging in beneficial behavior due to fear of some possible but unlikely bad outcome. Personal bankruptcy reformers around the world have faced these very fears over and over during the past 30 years (especially but not exclusively in Europe), and the bad outcomes have been muted if not entirely absent. It's time for China to stop starving its increasingly consumer- and small-business-dependent economy due to fear of bad societal effects of treating natural persons' insolvency. But for now, it seems China's overindebted consumers and small entrepreneurs will have to continue to wait.

That Mortgage Document Doesn't Say What You Think It Says

Adam Levitin — 2025-08-29T10:28:02-05:00

I've been getting a lot of emails and on-line comments in recent days from people who work in the mortgage industry about the Lisa Cook mortgage situation. What I'm seeing in these comments is a serious gulf between lawyers and non-lawyers. The non-lawyers tell me that "This is how it is supposed to work." To which my response is "Have you actually read the legal documentation?"

For example, lots of mortgage professionals (and too many journalists, following Pulte and Trump) are sloppy about conflating "primary residence" and "principal residence." The term "primary residence" is used in the uniform residential mortgage application, but the uniform covenant in the security instrument refers to a "principal residence." "Primary" is more restrictive than "principal." That sort of terminology difference can matter a lot for legal purposes. I know that this sort of pedantry is why everyone hates lawyers, but it is also the sort of precision that allows parties to strike exactly the deal they want. (And if you love this sort of thing, then you really ought to be in law school or yeshivah.)

This is hardly the first time the mortgage industry has learned that its legal documentation doesn't work the way it thought it did. First there was the MERS debacle—the private mortgage title recording system just didn't fit very well with state law. Then there was all of the securitization chain of title issues with non-delivery of notes indorsed in blank. Then there was the putback litigation--the putbacks that should have happened more or less automatically didn't work very well when sellers resisted. And getting much less attention was litigation over the default servicing provisions in the Fannie/Freddie uniform security instruments or the contractual permissibility of post-acceleration late fees.

I've spent a lot of time reading, teaching, and testifying about the Fannie/Freddie uniform instruments. They are probably the most widely used standard contract in the United States. There's scant interpretive caselaw, but there are lots of ambiguities and imprecisions in the documents. No one much cares...until litigation arises. But the documents don't necessarily work the way mortgage professionals assume they do.

I'll note that this is not an issue limited to the mortgage industry. It's basically a version of the whole covenant loophole play that facilitates dropdown liability management exercises. (You see, there is a connection between the chapter 11 stuff I do and the consumer finance stuff...) Legal documentation often has glitches, gaps, and loopholes that no one notices when deals are going as intended, but fail the stress test of litigation.

Pulte's Latest Bad Faith Accusation

Adam Levitin — 2025-08-29T09:59:47-05:00

Bill Pulte’s newest fraud claim against Lisa Cook is more outlandish and desperate than his original attack.

Pulte’s latest claim is based on Cook having rental income from 2021 second home mortgage in Cambridge. Pulte alleges that this means that Cook defrauded the lender by claiming the property as a second home, when it was actually intended as an investment property.

Once again, this is Pulte acting in bad faith to abuse his authority. There is no basis whatsoever on the current evidence for Pulte to be making a mortgage fraud referral to DOJ for Cook's Cambridge mortgage.

There are two problems with this argument. First, the standard Fannie/Freddie second home rider—which Pulte notably does not quote—expressly permits short-term rental of a second home:

Borrower must occupy and use the Property as Borrower’s second home. Borrower will maintain exclusive control over the occupancy of the Property, including short-term rentals, and will not subject the Property to any timesharing or other shared ownership arrangement or to any rental pool or agreement that requires Borrower either to rent the Property or give a management firm or any other person or entity any control over the occupancy or use of the Property. Borrower will keep the Property available primarily as a residence for Borrower’s personal use and enjoyment for at least one year after the date of this Security Instrument, unless Lender otherwise agrees in writing, which consent will not be unreasonably withheld, or unless extenuating circumstances exist that are beyond Borrower’s control.

All Pulte knows is that Cook declared between $15,000 and $50,000 of rental income from the property within the first eight months of the mortgage. Cook could easily have cleared $1,875/mo for eight months if she rented out the place on AirBnb for a few days each month.

Pulte does not know if Cook rented out the property for the entire year or just short term. If she occasionally rented out the property, she didn’t violate the covenant. That Pulte doesn't quote the key "short-term rental" language is suggestive that he's acting in bad faith.

Second—and this is something that non-lawyers often don’t understand—there is a really critical difference between a mere breach of contract and promissory fraud. The difference is about intent. If Cook broke her promise about property use (and that isn’t clear), all that shows is a breach of contract. For it to be fraud, she would have to have never intended to perform the promise in the first place. Pulte has no evidence whatsoever about Cook’s intent at the time she took out the mortgage. He hasn’t even shown a breach of contract, much less common law fraud, not to speak of a federal criminal law violation.

But here I am arguing legal technicalities when we all know this is pretextual and done in bad faith.

[Updated 8.29.25 at 2:45pm ET to address comment about 2021 vs. 2025 LLPAs by deleting LLPA/materiality discussion.]

The President's Firing of Lisa Cook Is Illegal

Adam Levitin — 2025-08-25T21:16:14-05:00

President Trump fired Federal Reserve Board Governor Lisa Cook tonight based on unproven allegations by his politically motivated henchman that Cook engaged in mortgage fraud. The President’s actions are illegal. He currently has no legal basis to fire Cook. Instead, he disregarded even a modicum of due process in order to achieve a political goal.

It is clear that the President can remove a Federal Reserve Board Governor “for cause.” Unlike some other federal statutes, “cause” is not articulated in the Federal Reserve Act, but presumably it falls within the ambit of "inefficiency, neglect of duty, or malfeasance” or the like. Whether engaging in mortgage fraud would falls into the scope of “cause” is doubtful, as it is unrelated to the execution of Cook's office. It's really no different than conviction for assault and battery arising from a bar brawl. At most, one might claim that the fraud indicates a lack of integrity or some general moral turpitude, but that isn't what "for cause" removal is about. Just because someone is a rotten human being does not create legal grounds for removal.

But even if mortgage fraud were actually an adequate basis for "for cause" removal, Trump has no basis for concluding that Cook actually engaged in mortgage fraud. The only thing the President has to go on is the evidence adduced in FHFA Director Bill Pulte’s criminal referral letter. That evidence would not, standing alone, be grounds for a prosecution.

The only evidence Pulte presents is that (1) Cook took out mortgages on two properties within a couple of weeks, (2) the security instrument for each contains a covenant stating that she intended it to be her “principal residence” for one year hence, and (3) one property was briefly listed by someone as being available to rent. None of that evidence is sufficient proof of mortgage fraud.

Let’s consider the statutes that Pulte referenced in his referral. First, he referenced 18 U.S.C. § 1014, which criminalizes false statements in loan applications. The covenants in the security instruments are not “statements.” They are promises, not representations of current fact, so they cannot be false. A misrepresentation about intended occupancy on the Uniform Residential Mortgage Application could trigger 18 U.S.C. § 1014, but the representation there, that property will be the borrower’s “primary residence,” is very narrow given that no duration is specified. That vagueness cuts against a criminal prosecution.

Second, Pulte referenced 18 U.S.C. § 1344, which criminalizes “knowingly” defrauding a financial institution or obtaining credit “by means of false or fraudulent pretenses, representations, or promises.” That provision could encompass the promises made in the security instrument about the property serving as the borrower’s “principal residence,” but it is far from clear that Cook knowingly made the promise or that it was in fact false.

Most borrowers do not read their security instruments, so it is entirely possible that Cook had no idea what she was promising beyond that she would pay the mortgage note when installments came due. While contract law readily tags consumers with constructive knowledge of the terms and conditions of their prolix form contracts, criminal law doesn’t work like that.

Moreover, even if Cook did know that she was promising to have both properties be her “principal residence,” it isn’t clear that she was making a false promise. The term “principal residence” is not a defined in the security instruments, but it is not the same phrasing as “primary residence” (as used in the UMRA). Pulte and Trump both gloss over this distinction as does a lot of the reporting, but I think the distinction matters. “Principal” is more capacious than “primary,” and is capable of covering multiple residences. Imagine someone who has an co-op in NYC, a house in the New York suburbs, and a condo in Florida and splits time among all three depending on seasons and days of the week, spending roughly a third of the year at each. That person might very well consider himself to have more than one principal residence. Or consider the President himself: he has an official residence in DC, a home in Florida, a home in New Jersey, and a home in NYC (among others). Can it be said that only Mar-a-Lago is his principal residence, but not the White House or Trump Tower?

(Pulte also referenced the wire fraud and mail fraud statutes, but those are lard-on statutes that require an underlying predicate fraud, which takes us back to the two statutes already discussed.)

The key thing here is that Trump’s only basis for action is Pulte’s referral letter, and that is not an adequate basis for concluding that Cook actually engaged in any wrong doing. Neither Pulte nor Trump have no idea whether Cook knowingly made the occupancy promise or what she interpreted the promise to mean.

We have a system in which people are innocent until proven guilty, and there is not even a prima facie case of fraud here, only a scant bit of evidence that is consistent with fraud. What’s more, that evidence is basically fruit of the poisonous tree, the result of a politically motivated fishing expedition by Pulte. To my knowledge the FHFA has never previously directed the GSEs to produce the loan files for specific individual borrowers, much less without any prior cause for concern about those borrowers. Instead, it seems that Pulte gave the GSEs a hit list of folks whose mortgages files he wanted to review because of their politics. (The fact that he's only found three targets says a lot about how his fishing expedition is going.) Yet the President is all to happy to use the inadequate result of his toady’s dirty work to advance his own goal of taking control of the Fed. Whatever "for cause" dismissal means, the President cannot be the sole arbiter of "cause" or else the restriction is meaningless. And if it is to have any meaning, the President would have to, at the very least, give the official in question an opportunity to be heard.

But that's not what happened. Instead, we have a President disregarding due process in order to achieve a political goal. That’s not how America is supposed to work.

Bill Pulte's Enemy's List

Adam Levitin — 2025-08-20T13:49:47-05:00

The media coverage about President Trump's demand that Federal Reserve Board Governor Lisa Cook resign based on alleged occupancy fraud on a 2021 mortgage application has missed the real story: how terrifyingly inappropriate FHFA Director William Pulte has behaved. Pulte is using control of the GSEs to pursue a political enemies list. That is an incredibly dangerous abuse of office. We do not tolerate this with the IRS, and we should not tolerate it with FHFA. Pulte should resign.

Pulte has been serving as the attack dog for Trump's attempts to gain control over the independent Federal Reserve Board, first going after Fed Chair Jerome Powell, and now after Cook. I have no idea about the merits of the allegations regarding Cook's mortgage application. If she did commit occupancy fraud, then it goes without saying that she should resign. (I'm not sure if it would be "cause" for her removal, as her mortgage borrowing was outside of the scope of her office, and both loans were from credit unions, which are not under Federal Reserve Board authority, but I want all officials holding the public trust to be beyond reproach.)

What troubles me here is not the possibility of garden variety fraud by a federal official in her personal capacity. Instead, the real problem here is that Pulte used the apparatus of the FHFA to target a political opponent. Pulte's abuse of office is a far, far greater offense than any personal mortgage occupancy fraud by a federal official.

I want to emphasize how absolutely extraordinary this is. Pulte's letter to DOJ with a criminal referral is curiously silent on how FHFA learned of the alleged occupancy fraud. Dollars to donuts, however, issues with Cook's loan file weren't caught in some routine audit or the like. No one ever goes back and examines loan applications on performing loans for occupancy fraud; that would entail expenses for no benefit. Instead, the only way anyone would have noticed a problem with Cook's loan application is that Pulte, as head of FHFA, directed Fannie or Freddie to pull her application. That is unheard of.

And do you really think that Lisa Cook was the only one targeted? Unless Pulte somehow had particular knowledge about issues with Cook's application, which is unlikely, then one has to conclude that Pulte handed Fannie and Freddie a list of political enemies and asked for their loan files for review. (Reporters--there's probably a paper trail about this...you might want to fire up your FOIA machines or start calling your contacts at the GSEs...) That's got to be how the DOJ indictment of Senator Adam Schiff and NY Attorney General Letitia James arose too. Think about that: it's basically a redux of Nixon's enemies list for IRS audits.

Whatever the merits of Cook's case, it is deeply troubling to see politicized targeting of loan applications by Pulte and the FHFA. It's also frankly hypocritical. The same crowd baying for Cook's resignation is also the group that has been complaining about politically motivated debanking, politicized investigations at the FBI, and politically targeted audits by the IRS. (Likewise, there's the hypocrisy of a President who was convicted of mortgage fraud calling on a Fed Governor to resign over alleged mortgage fraud...)

Pulte's actions are something that should scare all of us: if Cook, Schiff, and James can be targeted, what stops Pulte from threatening to review the mortgage application of anyone who speaks out. And if politicized mortgage application reviews are somehow ok, won't politicized IRS audits be next?

Pulte has crossed a really dangerous line in democracy. He should resign.

Chapter 11s Did Not Spike in July 2025

Bob Lawless — 2025-08-06T15:49:14-05:00

There were a number of reports that commercial chapter 11 filings jumped dramatically in July 2025. Unfortunately, these headlines appear to be from junk data and from sources that should know better such as the American Bankruptcy Institute and Epiq AACER. From working with both organizations in the past, I know they value accuracy. This post is a plea to do better.

The headlines are that commercial chapter 11 filings in July 2025 jumped 78% on a year-over-year basis. Supposedly, there were 911 commercial chapter 11s in July 2025 compared with only 512 in July 2024. Amid all the concerns about our national economy, that would be a notable increase if only it was true. Of those 911 new chapter 11s, almost a third were from the Genesis Healthcare bankruptcy. Ironically, Epiq is the claims agent and keeper of the public docket for the case. When a corporate group files bankruptcy, each one of its affiliates files its own bankruptcy petition. There is no connection between how the corporate group is organized and the size of the case. For example, the similarly sized Del Monte Foods filed bankruptcy with only 18 companies in its corporate group.

The sheer size of the jump should have led to some questioning about the data. Using the Federal Judicial Center's Integrated Petition Database, I crunched some numbers on affiliate filings. The 299 petitions generated by Genesis Healthcare is more than 99.4% of all cases that have filed since 2008. It is a large outlier. That same database informs that the largest number of affiliates in a filing from July of last year was only 21, meaning there was not some hidden corporate behemoth in last year's numbers.

Chapter 11s likely did increase in July 2025 on a year-over-year basis. The Federal Judicial Center database is only current through March 2025, meaning I cannot simply back out the numbers for this past month as did for last year. But, if we simply subtract the 298 affiliate filings from the supposed 912 new case, we still have 613 commercial chapter 11 filings. That would be a 20% increase on a year-over-year basis on the 512 cases presumably counted in the same way, but let's call that an estimate. Some searching on the Almighty Google did not reveal any other big corporate groups that filed in July, but I cannot rule out other possibilities. That commercial chapter 11 filings increased 20% is still noteworthy even if it is not as attention grabbing as press releases that scream about a 78% bump.

I have been writing about the "corporate group" problem and bankruptcy data on this blog since at least 2010. Another round of posts (e.g., here and here) came during COVID when people were using the chapter 11 filing rate as a barometer of the economy, a practice which has its own problems. The well-respected statistics expert, Ed Flynn, was keeping the numbers accurate for the ABI by separately tracking "parent" and "child" corporate filings, but that effort has unfortunately ceased. I would like to think this post will get things back on track, but bankruptcy experts are not known for their optimism.

Debt's Grip Now Available!

Bob Lawless — 2025-08-05T06:12:00-05:00

Today is the official release date for our new book, Debt's Grip: Risk and Consumer Bankruptcy, from the University of California Press. Debt's Grip uses eleven years of court records and surveys from the Consumer Bankruptcy Project to provide a thick description of what it means to live in financial precarity in the United States. Through personal narratives from our surveys, bankruptcy filers describe in their own words the privations and struggles they suffered. It has been a privilege to work with Pamela Foohey (also a Slips blogger) of the University of Georgia and Debb Thorne of the University of Idaho to put this book together.

We wrote the book so it would be accessible to nonlawyers. The second chapter of the book describes the bankruptcy process in plain English. We then continue by documenting the increasingly lengthy period of time people sit in the financial "sweatbox" before filing bankruptcy. The next three chapters are built around types of debts--home and car debts, medical debts, and credit card and other unsecured debts. Demographics are part of the bankruptcy story. A chapter discusses how the bankruptcy system both reflects and exacerbates larger patterns of racial inequality. Another chapter looks at the overrepresentation of women and especially single women raising children. We then look at the fastest growing group of bankruptcy filers -- adults age 65 and over. The book then turns to how debt collection and changes in that industry have shaped bankruptcy filings. The final chapter was supposed to be about the exceptions -- bankruptcy filers with resources who were using the system to escape debts they could pay. I say "supposed to be" because we could not find those cases from the 8,800 files in our sample. Well, we did find one, but the court dismissed the case!

The book is available from the UC Press, Bookshop.org, Amazon, Barnes & Noble, and other outlets. We have a busy semester of events where we will be discussing the book and are always looking for more opportunities.

Arbitration for Thee, But Not for Mike Lindell

Bob Lawless — 2025-07-24T12:30:07-05:00

The Eighth Circuit has overturned an arbitration award in favor of a software developer who took up the $5 million challenge of MyPillow founder, Mike Lindell, to "Prove Mike Wrong" about his claims the 2020 presidential election was stolen. The dispute went to arbitration per the boilerplate predispute terms in Mr. Lindell's contest rules. The arbitrators heard the evidence, gave reasons for their decisions, and decided in favor of the software developer. The software developer then used the Federal Arbitration Act, which requires federal courts to confirm an arbitration award (making them enforceable as a court judgment).

The Eighth Circuit overturned the lower court's decision to confirm the award, citing provisions of the same law that say a federal court can refuse to confirm an arbitration award where "the arbitrators exceeded their powers." The court reasoned that the contract was unambiguous, and the arbitrators had "exceeded" their authority by applying standards that were not in the contract. The arbitrators also thought the contract language was unambiguous and thought those standards were the relevant ones. It is difficult to see the opinion as anything more than just the Eighth Circuit substituting its judgment for the arbitrators, which it is decidedly not to supposed to do. Three arbitrators and a district judge saw the "unambiguous language" differently.

The use of predispute arbitration clauses to deny everyday consumers their day in court has been documented extensively including on this blog. Courts routinely enforce those clauses to the letter. Despite my misgivings about the Eighth Circuit's decision under current law, it would be fantastic if the decision signaled a greater willingness of the federal courts to police arbitral awards. Something tells me, however, that might not be the case in a more routine consumer dispute.

Will Corporate Treasuries Have Any Interest In Using Stablecoins?

Adam Levitin — 2025-07-21T21:39:55-05:00

With the GENIUS Act signed into law now we get to see if stablecoins can actually walk the walk, not just talk the talk. The story the stablecoin industry has told is one of payments innovation, particularly for international payments, with stablecoins poised to displace the expensive and ungainly wire transfer system. Is this right?

Stablecoin boosters rightly note that the wire transfer system is less than ideal. Although an actual wire can be sent almost instantaneously from one bank to another, wires often move through chains of banks. For example, a business in Germany wants to pay a supplier in the United States, so it directs its local bank to send a dollar-denominated payment to a correspondent bank, to a larger international bank, through an international clearing organization, to another large international bank, to a correspondent bank, to the local bank of the American supplier. That’s six payment orders before the funds are settled into the American payee’s account. That’s a lot of places where something can go wrong—whether it is delay or a payment order not being forwarded at all or being sent to the wrong place or in the wrong amount, etc. To be clear, most wires go through just fine, but it’s a huge pain when they don’t, not least because the dollars involved are often large.

Stablecoins promise to be an alternative method for international payments. The scheme envisioned is that the German business simply sends a payment of stablecoins from its blockchain wallet to a blockchain wallet controlled by the American supplier. Or more likely, the German business directs its crypto custodian to send a payment to the crypto custodian of the American supplier. This transaction cuts out all of the layers of correspondent relationships and can be done much faster (just as long as it takes for the block to clear), and the parties can readily observe to see if the transaction has happened or not. There’s not much room for a “the money has been sent, I don’t know why it hasn’t arrived” situation, absent insolvency or fraud. Sounds great no?

I’m skeptical that there’s going to be much uptake, at least from larger businesses in developed countries. Here’s why. I talk with corporate treasury types from time to time. These are the folks who have to be convinced to use stablecoins if they are going to be anything other than a niche payment market for personal remittances and capital control evasion. From the perspective of many corporate treasury professionals, there’s little to commend the use of stablecoins. Sure, wire transfers are problematic, but stablecoins bring with them a host of other operational problems. Instead of simply maintaining an account (or a master account with subaccounts) at a bank, the corporate treasury now needs to also maintain stablecoin wallets—at least one for each type of stablecoin it will take or make payment in. Remember that a USDC is not good delivery for USDT, etc. It’s like having to maintain accounts in different currencies. That’s just an operational pain. (The same is true for having to develop protocols for invoicing for stablecoin payment to make sure that the payment goes to the right place; it’s doable, but takes additional work to be operational.)

The corporate treasury will also need to be frequently moving funds in and out of those stablecoin wallets and into its deposit accounts. In other words, there’s actually another leg to the stablecoin payment transfer—from the wallet to the deposit account. That last leg probably isn’t going to be instantaneous (and might in fact involve a wire transfer!). That just adds more operational complication. What’s more, that last leg probably won’t be free. Coinbase, for example, has no conversion fee for USDC to USD for wire transfers of under $40 million over 30 days, but it then jumps to 5bp for the $40m to $100m range and goes as high as 20bp. So if you were doing $60m, you’d be paying $35k in fees. That’s a LOT more than you’d likely pay for receiving $60m in wire transfers in $50k increments at Citibank ($15/incoming transfer, so $18k in fees). Of course, if the transfers were all for $25k, then the Coinbase fee would be slightly lower. The point here is that it is far from clear if stablecoins will be a cheaper option for corporate treasuries compared to wires. Additionally, because major stablecoins are pegged to the US dollar, foreign users are assuming FX risk when they maintain stablecoin balances. (This can be a feature, rather than a bug, depending on the stability of the local currency….)

Here’s what I know about corporate treasury folks. They are operations people, and they always want to reduce operational complication. Although they are happy to reduce cost, reducing the cost of international payments just isn’t a huge priority for them (it’s not like interchange fees for them). Instead, they are likely to follow the adage that “no one ever got fired for buying IBM,” which means playing it safe and sticking with the tried-and-true wire transfer system. What could go wrong with a stablecoin transaction and who would be responsible? If you're a corporate treasurer, do you really want to risk finding this out the hard way? Are you sure you've identified all the risks with a new system with new intermediaries? There’s basically no upside to a corporate treasurer for using stablecoins, and if anything were to go wrong, the treasurer will get blamed for using stablecoins for payment.

This all leaves me quite skeptical that there will be any major commercial uptake of stablecoins for payment purposes. Instead, I suspect that the major use of stablecoins will continue to be serving as collateral for in DeFi lending protocols and liquidity pools, with a relatively limited sideline of payment use, particularly in developed countries with stable currencies. It'll be interesting to see where things are in five years with this.

The "Big Beautiful Bill" & Law-School Student Loan Debt

Bob Lawless — 2025-07-07T14:46:40-05:00

The president has done yet another thing that will have massive effects on legal education. No, this is not about how I must overhaul my Consumer Finance syllabus. Granted, the poor saps who teach Constitutional Law have it worse, but they knew what they signed up for.

If you have not dug into the details of H.R. 1, An Act to Provide for Reconciliation Pursuant to Title II of H. Con. Res. 14, there are some biggies for those who care about how legal education is funded and administered. Known in some circles as the "Big, Beautiful Bill," this law massively overhauls federal student loan programs. Jeff Robledo at USA Today has a good summary of what the changes mean for borrowers generally. For law schools, there is a biggie.

Section 81001 of the law eliminates Direct PLUS loans as an option for graduate and professional students. Originally designed for parents to borrow to help with the cost of undergraduate education, Direct PLUS loans expanded in 2006 to allow graduate and professional students to borrow for their own education (as Grad PLUS loans). With this new law's enactment, graduate and professional students will need to use Federal Direct Unsubsidized Stafford Loans.

The same section says professional students, such as JD students, cannot borrow more than $50,000 annually or $200,000 in a lifetime. For a three-year program of study, that is effectively a $150,000 cap. Will an enterprising law-school dean exploit that regulatory arbitrage to spread three years of instruction across four calendar years to the $200,000 cap?

This post was going to be about how the cap is mainly a tempest in a teapot, but facts got in the way. Quite a few students and law schools will be affected. Looking at the most recent year for which law student loan debt by school (2022), 14% of law schools reported average student borrowing of $150,000 or more. Those law schools accounted for one in every five graduates from 2022. If we heroically assume that student loan debt is normally distributed -- and it probably is not -- that is 3,600 students who borrowed more than $150,000 to attend law school. Moreover those are 2022 figures, and data from the Common Fund suggest the costs of higher education have risen about 10% since then. If we inflation adjust the 2022 numbers, 24% of schools have average borrowing of $150,000 or more in 2025 dollars. Of course, inflation runs in one direction meaning more schools and students will hit the cap in the years to come as the new law does not have inflation indexing.

As someone who cares a lot about overindebtedness, one reaction is that the effects of the cap will not entirely be a bad thing. Does a law-school education really need to cost well in excess of $150,000? I downloaded LawHub's data and crunched the numbers. The costs are skewed toward private schools. The average student at a private law school borrowed $135,405 compared to $94,136 at a public school. Those numbers first tell us that most students do not need to borrow more than $150,000 right now (although again that will be less true as inflation raises law school costs). If the caps lead to a significant number of students valuing lower-priced public schools, that will create market pressure at private schools to keep costs more in check. All that would be a good thing.

It seems more likely that students will instead shift to private student loans to make up any shortfall. The rankings game plays an outsize role in legal education, and that game does not appear about to change any time soon. Many students use the rankings to make poor purchasing decisions on their education -- although students are becoming increasingly sophisticated about weighing the costs of their education versus the economic benefits. Shifting to private student loans would be a bad thing. First, some students simply would not meet their underwriting criteria. Unlike the federal programs, private student lenders can deny loans to students who do not meet their standards. Second, private student loans are costly. (If anyone knows about data that are both good and current on private student loan interest rates, please post in the comments.) Third, private student loans offer far fewer protections and fallbacks for students who cannot repay their loans (or who are victims of predatory educational practices).

In one little way, there appears to be a small win for law students. The interest rate on Grad PLUS loans right now is 8.94% but only 7.94% for Unsubsidized Stafford Loans. Both programs have upfront fees that come out of the amount borrowed -- 1.057% for Unsubsidized Stafford Loans and 4.228% for PLUS loans. Those upfront fees slightly raise the annualized cost of borrowing, and again PLUS Loans carry the higher fee. The law also narrows loan forgiveness programs, generally requiring longer payment periods and more payment before loans are forgiven. Those details I will leave to elsewhere. The slightly lower interest rate will not compensate for these restricted options in the future. And, yes, the bill is even worse for graduate students who get even stricter caps and for other professional programs such as medical schools where the cost of attendance is greater.

Teaching Trustee Exemption Planning in Bankruptcy

Pamela Foohey — 2025-07-02T12:51:15-05:00

Since I began teaching the bankruptcy survey course, I've added extra material apart from the textbook that I've named "trustee exemption planning." The core of this material is Schwab v. Reilly, 560 U.S. 770 (2010), which I've assigned more or less in its entirety. The case is a useful vehicle to discuss how to claim exemptions, what debtors (and their attorneys) may do if the value of property is unclear, what trustees likewise may do if the value of property is unclear, and how trustees may make money for creditors from an estate. The debtor, Reilly, also has a moving story about opening a restaurant and wanting to keep kitchen equipment that is sentimental to her. I give students her handwritten schedules outlining every piece of equipment she seeks to retain. The case also outlines how a trustee can preserve value for the estate beyond the relevant exemptions.

But the case is getting older. The forms modernization project updated Schedule C to align with its holding. Enter a new case, published about a month ago, In re Collins, Case No. 24-54928, Judge John E. Hoffman, Jr., Bankruptcy Court for the Southern District of Ohio. Bill Rochelle highlighted it for its clarification of what a trustee must do to object to an exemption claiming "100% of FMV." I am posting about the opinion to further highlight it for its usefulness in teaching about exemptions in consumer bankruptcy.

The debtor filed a chapter 13 petition. The opinion includes a section detailing the function of exemptions in chapter 13 versus chapter 7, a distinction that is worth emphasizing more than once in a bankruptcy course. The opinion also includes a section discussing the history of Schwab and the circuit split it resolved. It is complete and succinct. The opinion further includes a section about post-Schwab amendments to Schedule C, with pictures. I spend time in class asking students whether the amendments to Schedule C can resolve some lingering questions about claiming "100% of FMV" or similar. In re Collins provides an answer. I'm thinking of rotating it into my extra materials for the bankruptcy course this fall, and retiring using Schwab v. Reilly in its entirety.

The 23andMe Court Got It Right; Is that Wrong?

Bob Lawless — 2025-07-01T15:58:26-05:00

The bankruptcy court approved 23andMe's motion to sell its assets in its chapter 11 case. Those assets include the genetic information its customers had entrusted to the company. Understandably, many customers and government regulators had concerns about the deal. In the end, Judge Walsh got it right on the law.

All that was at issue in the motion before Judge Walsh was whether 23andMe satisfied the requirements to sell assets in bankruptcy. The consumer privacy ombudsman suggested restrictions on the transfer of its customers' genetic information. Those restrictions might serve the common weal, but Judge Walsh had to stick to the law Congress had given him. That law is a textual mess. The intentionalism and purposivism on display in the opinion cuts through the textual problems. There is a lot to the opinion, but for now I will just focus on the section 363 issue.

Section 363(b) says the court is to approve a sale of "personally identifiable information" (PII) if:

(1) The sale is consistent with the company's policy prohibiting transfer of PII,

(2) The court approves the sale after

(A) "giving due consideration to the facts, circumstances, and conditions of such sale or such lease;"

AND

(B) finding that the sale would not violate applicable nonbankruptcy law

The debtor first argued that it only had to meet one of the two requirements, and its policy allowed the transfer. The statute does use the word "or" giving the debtor a nonfrivolous argument, even if it a hyperliteralist one. Congress, however, added this language in 2005 over concerns the bankruptcy process could run roughshod over privacy protections. It is absurd to suggest that a law intended to increase those protections somehow accomplished the exact opposite. To the best of my knowledge, it was the first time anyone ever made that argument. The 2005 law was a technical disaster, and this language is just another example. Reading the statute in the debtor's hyperliteralist way leads to all sorts of illogical results such as a company with no privacy policy having more restrictions than a company with a privacy policy.

The meatier argument was that the sale violated various state privacy laws, and at the end of the case, five state attorneys general had not settled their objections. The states' laws have different wording, but it comes down to whether the debtor was "transferring" the data. The deal structure, however, was a transfer of equity ownership, not a transfer of the data themselves. Before the sale, 23andMe dropped the data into a wholly owned subsidiary in exchange for a promissory note. The subsidiary's equity was then transferred by 23andMe to the buyer, TTAM.

For my money, the whole case comes down to whether that initial drop down transaction to a wholly owned affiliate was a "transfer" within the meaning of the state statutes. Judge Walsh persuasively demonstrates the prohibition on "disclosures" of the data in the same state statutes cannot mean literally every "disclosure." Every time a 23andMe employee accesses the data, 23andMe has "disclosed" the data to a person other than itself. That act cannot possibly be within the state statutes, or they would be backdoor bans on the industry altogether. If "disclose" cannot mean every "disclosure," then the word "transfer" in the same statutes is similarly circumscribed.

The next step is the weakest link in the opinion's reason. That the word "transfer" has some boundaries does not demonstrate on which side the matter at hand rests. Judge Walsh is certainly right, however, that it is unlikely the state legislatures intended to regulate corporate structures through the privacy statutes. The court would not further the purpose of the statutes by understanding them to limit transfers wholly within a corporate group. I agree. A strict textualist might not.

It is unlikely we will get an appeal given section 363(m)'s protection for bankruptcy sales order. Judge Walsh did stay his opinion for ten days to give the parties a chance to appeal. If we do get an appeal, more will be at stake than just another bankruptcy issue. The decision largely rests on how judges think about the statutes they must apply. The specialist judges of the bankruptcy courts more easily see the larger statutory design and are drawn to interpretative approaches that ask what the legislature was trying to accomplish. A more textualist-minded Article III judge on an appeals court could see it differently.

What Are Law Reviews Good For?

Bob Lawless — 2025-06-25T14:02:52-05:00

Adam recently posted his laments about the state of law reviews, which has been an issue only since the 1930s. I have a different theoretical lens that fills a gap in the literature that, at first blush, seems counterintuitive, and for the first time in the history of civilization fills an unexplored niche. I have now run out of law-review clichés (but invite commenters to list their favorites).

The Washington Free Beacon story about the publication practices at the Harvard Law Review moves me not at all. If web sites can be "rags," the Beacon is an egregious one. As I write this post, the main headline reads, "Trump Delivers Victory in 12-Day War: Thank You, Mr. President, for Your Attention to This Matter." I put no reliance on a document review from any organization with such a thin connection to reality and committed obeisance to a regime that itself treats reality as an obstacle to overcome. Maybe somebody with more time will dig through the thousands of pages of documents the Beacon made available. As far as I know, no one has questioned their authenticity although it would be fair to wonder whether the Beacon has curated the documents it made available.

Still, Adam is not wrong, and he raises a good question. What good are law reviews in a world of widely available online sources where authors can quickly connect with audiences (such as the blog post you are reading)? Do law reviews now cause more harm than good?

In law-school, I was editor-in-chief of the University of Illinois Law Review. It was an amazing educational experience. We made lots of mistakes. Our photos would have appeared on the web page for Dunning-Kruger Effect if there had been web pages. That is an important point because technology's role has not received the attention it deserves in the law-review story. This was the 1980s, and everything was done on paper. There was a metal bookcase stuffed full of manuscripts that constantly threated to topple and crush the editor working beneath it. We received several hundred manuscripts over the course of the year and thought that was too many. We did our editing by hand.

The word-processing revolution lowered the barrier not only for authors to write a manuscript but also for law reviews in prepare them for publication. As a young academic in the 1990s, I witnessed the proliferation of specialty journals which could soak up the added number of new articles professors were now churning out. Law schools, whether through peer pressure or institutional imperatives, ratcheted up expectations about what how many articles a "productive" law professor would produce. Of course, the technological and concomitant institutional changes have only accelerated. At one time, a law school fellowship/VAP was the time to develop a scholarly portfolio before going on the teaching market. Now, the norm is that people applying for these fellowships already must have a publication record. The Georgetown Law Journal says it receives over 2,000 submissions per year, a number at which it is not humanly possible that each submission is receiving careful consideration.

We have too many law review articles. Too many articles make broad claims. Too many reflect the time pressures to produce. Too many are disengaged from relevant conversations in the judicial, practice, and policy worlds. Too many are just about the author's normative take on an issue of the day. Last week, I read an article with a localized study that was brilliant with revelatory results. At the same time as it acknowledged limitations, it made broad recommendations for national reforms and failed to consider counter-explanations for its results. I fault the author not one bit because, if the paper had done those things, it would have found a home only in a "mere" peer-reviewed journal rather than the fancy law review expected of this young scholar. If we are being honest, we all can find other examples, and if we are being brutally honest perhaps even point to examples in our own writing.

Adam proposes a direct-to-reader model where authors post legal scholarship directly to a web site. A less generous co-blogger than me might snarkily say that Adam just invented Substack. I think such a model only exacerbates the problems. There would be more hastily prepared articles. The articles with the biggest claims would attract the attention.

Where I especially depart from Adam is the rejection of peer review in law journals. A commenter noted it works quite well in non-U.S. settings. Adam responds it is difficult to peer review the sorts of normative claims replete in U.S. law journals. If an article's main contribution is the normative claim, do we really need it? There are places for bloviating, such as this blog post. Peer-reviewed journals welcome recommendations built on the evidence in the article, but they also tend to be tough on whether the evidence is correct.

All this debate is academic, in several senses of the word. Institutional imperatives make change unlikely. The legal academy as a whole would need to act, and there is no obvious candidate to be the first mover and solve the collective action problem. The other problem, as many have noted, is that peer review takes resources. The American Bankruptcy Law Journal has moved completely online, somewhat along Adam's model, and it retains peer review. That journal relies on the goodwill of the bankruptcy judges who run it. There is no chance that U.S. law schools will make available the faculty time and resources to enable a peer-review system for U.S. legal journals. The system will just need to continue to be the inexhaustible resource it is for complaints about how it could be so much better.

It's Time to Get Rid of Law Reviews

Adam Levitin — 2025-06-21T22:23:49-05:00

The Washington Beacon has published an absolutely jaw-dropping piece about the Harvard Law Review's article selection process, which allegedly gives substantial consideration not just to the assumed identity (race, gender, sexual orientation) of the author, but to the assumed identity of the authors of sources cited. (Who knew that I should have been indicating in every citation the race, gender, and orientation of the author?)

I haven't bothered submitting to HLR for some time, but if the allegations are true, it still leaves me dismayed that I have had my time wasted as an author and furious that I have had my time wasted doing outside reviews. Don't ask me to do free reviews when it's just for show. I'm just waiting for the class action...

It’s easy to dismiss the HLR fiasco as an example of woke gone wild, and that’s undoubtedly part of the problem, but the more fundamental problem is that student editors should have no business selecting articles. Indeed, as I will argue below, law reviews are a medium that has served its purpose and they should shut down—there’s a much better way to disseminate legal scholarship: connecting authors directly to legal research databases (direct-to-database publishing).

The Problems with Student-Edited Law Reviews

The criticisms of student edited law reviews are well-known: in what sane world would second year law students sit in judgment of the quality and originality and importance of scholarship, including on topics about which they have not even taken courses? The students, no matter how bright and hard-working, just do not have the expertise to evaluate the scholarship.

What’s worse, student-editing distorts legal scholarship: we have to work around a biannual article shopping cycle (Shrovetide and Hlamas), and we have to write for an audience of 2Ls. That means we are inclined to pick topics that will resonate with them, which favors big policy debates, rather than important technical issues. We are incentivized to overclaim to make our work sexy. We end up spending too much time explaining and citing for basic concepts, including sections that explain why our work is important, etc. The incentive, especially pre-tenure, is to optimize around over-selling crap to 2Ls. That’s nuts.

Peer-Review Is Poorly Suited for Legal Scholarship

But let’s not kid ourselves into thinking that peer review is a panacea. Peer review is a good mechanism for double checking on methodological issues, like whether an empirical study has the proper controls. It works well when there is a common methodology for an entire field, say, economics. But peer review is not reliable for substantive knowledge issues: a peer reviewer might or might not have the relevant substantive knowledge to evaluate an article. For example, an economist might be able to give a good review of the methodology of the OLS analysis in a paper on bankruptcy claims trading, but the economist (and frankly many law professors) would likely lack the bankruptcy knowledge to realize that most trades in bankruptcy claims are not visible in the claims register, and would thus miss the enormous selection bias problem with a paper that relies on an analysis of trades for which a Rule 3001(e) filing was made.

The even bigger problem with peer review, however, is that it is utterly unsuited for normative scholarship, and a lot of legal scholarship is normative. A originalist reviewer probably isn’t going to like a non-originalist con law analysis, no matter its quality. A pro-choice scholar probably isn’t going to like a work arguing against abortion, regardless of quality. And so on. I’ve seen this first-hand. I submitted my first article to the Antitrust Law Journal almost 20 years ago. One reviewer liked the piece. The other denied that there could possibly be antitrust problems in two-sided markets. iirc, I got a revise and resubmit. In this instance, I told the journal to kiss off and fortunately the students at UCLA didn’t have normative priors that affected their review: payment card antitrust was not something most students would have a view on, making them actually a better screen than professionals who might have a dog in the hunt, even if indirectly. (I note that a PLOS One model of only reviewing for methodology avoids the normative evaluation problem, but that doesn't work in a field without a methodology...)

What’s the Purpose of Law Reviews?

So where does that leave us? I think we should go back to first principles. What is the purpose of a law review? Law reviews originally began as a method of disseminating legal scholarship. 125 years ago or so, if you wanted to research scholarship on an issue, you had to go through lots of separate print volumes of law reviews. The knowledge went from the author to the reader through the law review (A—>LR—>R). That’s not how it works today. I do not know anyone who reads an actual print general law review. Readers consume articles electronically, generally through databases like Lexis, Westlaw, Hein, and SSRN, that compile law review articles. So knowledge goes from Author to the Law Review to the Database to the Reader (A—>LR—>D—>R). With this structure, one has to ask what value the law review is providing in the process.

As I see it, the law review performs two services in the scholarship process. The first is a vetting service. While the law review’s publication might not mean that the article is any good, it probably screens out the really crazy stuff. Second is an editing service. That’s hit-or-miss, however. I’ve had a few law review editors (I’m looking at you, Dan Hemel) really improve my pieces substantively. But generally, edits have either been minor stylistic improvements, added (and unnecessary) citations, or even stylistic debasements. All in all, I can’t say that my articles have really improved from the editing process, and the improvement certainly hasn’t been worth the effort put in by me and the editors. All of this is to say, law reviews are not adding very much value to the production of legal scholarship.

To be sure, law review also provides an educational service, in that it exposes a subset of students to legal scholarship, and helps them become better at the critical skill of Bluebooking. And it’s a credential that enables greater differentiation of students for clerkship hiring than 1L grades alone. So, basically, law reviews add little value to scholarship and education, but provide a slightly helpful marker for judges who are overwhelmed by the volume of clerkship applications.

Get Rid of the Law Reviews

Accordingly, here’s my modest proposal: let’s cut out the middle man and get rid of law reviews. Legal scholarship should just be published direct-to-database. Authors would submit directly to databases. (A—>D—>R).

Here’s how it could work: Each law school should contract directly with the relevant scholarship databases to publish its faculty’s work. For example, Georgetown Law could contract with Lexis and Westlaw to have the “Georgetown Law Review” that would consist of articles written by Georgetown Law faculty. Georgetown would have its own internal vetting process (that could be as little as “we trust our faculty” or involve an actual review process of sorts). Georgetown could also have its own editing process (either by students or by staff). Either way, the school would do the gatekeeping function. Articles would go up to the database on a rolling basis and would have a citation of vol. Geo. L. Rev. pin (year). But the article would never appear in print unless a faculty member wanted to pay for a vanity offprint. Schools would be the guarantors of their own faculty’s scholarship quality.

We already have something very close to this: SSRN. Lots of working papers get published to SSRN. What I envision is basically the same thing, but with the working papers also going into Lexis, Westlaw, and Hein, and with a more standardized citation format. How much, if any vetting and editing would be up to the particular school, but being a faculty member (including a VAP or fellow) should be vetting enough, and hopefully we can all write good.

Now there is a small amount of legal scholarship published by people not on faculties. I can imagine a small number of traditional law reviews, generally speciality journals existing for their work, but I’m looking for a solution for the 99%, not the 1% here, and I think direct-to-database does the trick of getting scholarship disseminated without the insanity of student article selection and editing or the inappropriateness of peer-review for a frequently normative field.

Bulgaria finally adopts personal insolvency law

Jason Kilborn — 2025-06-20T09:56:29-05:00

At long, long last, Bulgaria yesterday finally became the last EU Member State to adopt a personal insolvency law (Malta's law, effective late last year, seems to provide relief only for entrepreneurial debts, but it technically extends relief to individuals owing such debts, which is all the relevant EU Directive requires). To say the Bulgarian parliament adopted this law begrudgingly would be a significant overstatement of the enthusiasm for this new procedure--after many years of resistance, Bulgarian lawmakers seem to have relented under financial pressure from EU authorities. "Begrudgingly" also seems to be an apt characterization for how the new law offers debt relief to individuals, given its requirements and restrictions, but we'll have to see how the law is implemented. In any case, this is a watershed event worthy of note.

AI Models on Law School Exams

Mitu Gulati — 2025-06-04T08:41:01-05:00

The question of how well AI can do on law school exams is one that interests me, since I give exams and want them to be a measure of how much my students have learned (as opposed to their skills at using AI -- although I want them to learn those too). Others appear to be interested too -- just see the ssrn downloads for papers on this topic. Caveat: I can't pretend that I have more than the shallowest of understandings of AI models. But this cool new paper I came across might be of interest to folks.

The paper is from a set of scholars at ETH in Zurich (a place long known for its excellent research). As I understand the draft (and, to repeat, I don't understand a lot of this stuff), the paper finds that the large language models (LLMs) don't do that great when you increase the level of reasoning required on the exam. I was also intrigued to read (I think) that LLMs are not necessarily better on multiple choice exams than essay type ones. From the abstract, here is a sentence that stood out: "Our evaluation on both open-ended and multiple-choice questions present significant challenges for current LLMs; in particular, they notably struggle with open questions that require structured, multi-step legal reasoning".

The paper is "LEXam: Benchmarking Legal Reasoning on 340 Legal Exams"

Among the other cool things about this paper to me is how collaborative it is -- students, professors, and even judges. To me, it reflects well on the culture of the institution that has such a degree of collaboration.

Sharing Risk

Bob Lawless — 2025-05-29T15:20:27-05:00

Credit Slips readers will want to check out a brand-new book from Pat McCoy, the Liberty Mutual Insurance Professor at Boston College Law School (and a past guest blogger here). Sharing Risk offers both a diagnosis and prescription for the financial precarity of American households. Because over half of Americans do not make enough to meet basic needs, they often turn to borrowing to make ends meet. McCoy proposes expended risk-sharing arrangements about income security, housing, health insurance, and college education. McCoy's proposals seek to enable American families to flourish and secured their economic well-being.

The book is available directly from the University of California Press. McCoy also passed along that she is now blogging at a new substack.

Fannie and Freddie Are Now Explicitly Guarantied

Adam Levitin — 2025-05-27T19:03:09-05:00

When will Donald ever learn to run his tweets by counsel before posting them? He consistently shoots his legal position in the foot. The latest is about the implicit government guaranties of Fannie Mae and Freddie Mac:

I am working on TAKING THESE AMAZING COMPANIES PUBLIC, but I want to be clear, the US Government will keep its implicit GUARANTEES, and I will stay strong in my position on overseeing them as President.

Pro tip: it's not an "implicit" guaranty if you say it out loud. Once you do, it's explicit. 🤦

That's actually potentially a huge problem for federal accounting purposes. The whole reason that Fannie and Freddie's enormous book of debt is not on the federal balance sheet, blowing through the debt limit, is that the guaranty has always been implicit: it's about a wink and a nod. With this tweet, I am not sure that it is possible for Fannie/Freddie to come off the federal balance sheet even if privatized because of the now "explicit" guaranty. (Or as a fallback, there's a promissory estoppel argument.) As far as I can tell, because of an over-eagerness to tweet, Fannie and Freddie's obligations now bear the eagle. Maybe the CBO will view this differently, but all that comes to mind right now is the timeless words of Napoleon Dynamite:

The Supreme Court Is Just Making Stuff Up About the Fed

Adam Levitin — 2025-05-22T23:13:35-05:00

The Supreme Court is welcome to have its opinions. But it is not welcome to have its own facts. Fact-finding is at the core of the judicial enterprise, and once the Court starts simply making things up, it loses its legitimacy.

The Court took a dangerous step in that direction today with its opinion granting the President's order for a stay of the District Court's injunction of the President's removal of a member of the National Labor Relations Board and of the Merit Systems Protection Board.

Members of the NLRB and MSPB are, by statute, removable by the President only "for cause," yet the President removed these board members (and those of some other government boards) without cause.

One of the arguments made against the stay was that "arguments in this case necessarily implicate the constitutionality of for-cause removal protections for members of the Federal Reserve’s Board of Governors or other members of the Federal Open Market Committee." The majority of the Court disagreed, noting " The Federal Reserve is a uniquely structured, quasi-private entity that follows in the distinct historical tradition of the First and Second Banks of the United States. See Seila Law, 591 U.S., at 222, n. 8."

That's just historical hogwash.

Let's start with the source cited. It doesn't support the Court's claim:

The dissent categorizes the CFPB as one of many “financial regulators” that have historically enjoyed some insulation from the President. See post, at 11–16. But even assuming financial institutions like the Second Bank and the Federal Reserve can claim a special historical status, the CFPB is in an entirely different league. It acts as a mini legislature, prosecutor, and court, responsible for creating substantive rules for a wide swath of industries, prosecuting violations, and levying knee-buckling penalties against private citizens. See supra, at 4–5. And, of course, it is the only agency of its kind run by a single Director.

Nothing in Seila note 8 talks about "the distinct historical tradition of the First and Second Banks of the United States." Seila doesn't even mention the First Bank of the United States, and note 8 does not state anything as fact; it only posits an assumption for argument's sake. No law review editor worth his salt would let this get by on a Bluebooking. "See" is to be used when the source clearly supports the proposition, but requires an inferential step. That's not the case here. The fact that the Court can't cite anything better should be a red flag that it is making stuff up.

But let's be charitable about the citation. Here's the bigger problem. The Court is just flat wrong in claiming that the "Federal Reserve is a uniquely structured, quasi-private entity that follows in the distinct historical tradition of the First and Second Banks of the United States." It's wrong about the unique quasi-private entity, and it's wrong about the historical tradition.

False Claim #1: The Federal Reserve is a uniquely structured, quasi-private entity

The Court says that the "Federal Reserve is a uniquely structured, quasi-private entity." The initial problem with this claim is that there is no legal entity called "The Federal Reserve." Instead, there is a "Federal Reserve System," which consists of a three separate legal entities:

the Board of Governors of the Federal Reserve System, full-blooded federal bank regulatory agency;
a set of twelve regional Federal Reserve Banks that are privately-owned entities with unique federal charters.
the Federal Open Markets Committee, which consists of the Board plus a rotating case of representatives from the regional reserve banks.

Critically, the FOMC is a separate legal entity than the Board of Governors. It has separate legal authorities; the open market operations of the regional Federal Reserve Banks are required to be in accordance with "the direction of and regulations adopted by the Committee," rather than by the Board. The FOMC is subject—like any federal agency—to the Administrative Procedures Act, and operates through notice-and-comment rulemaking when it puts out regulations.

The Court, however, conflates these separate legal entities, claiming that the "Federal Reserve" is a "quasi-private entity." That's wrong. The Board is a plain old federal regulatory agency. The Reserve Banks are private entities. It is only the FOMC that is a hybrid, and even then it is still a public entity, with part of its governing membership coming from the regional Reserve Banks.

I'd call the Court's characterization of the organization of the Federal Reserve System sloppy, but I fear it's actually a motivated and intentional blurring. The for-cause removal issue is not about the FOMC, but about the members of the Board of Governors. To be sure, the members of the Board of Governors are members of the FOMC, but there is no Presidential removal power over the regional reserve bank representatives on the FOMC.

False Claim #2: The Fed "follows in the distinct historical tradition of the First and Second Banks of the United States"

There's another problem with the Court's claim, though, beyond pretending that the Board of Governors is really the FOMC by calling it all the "Federal Reserve." The Federal Reserve System most distinctly does not follow in the historical tradition of the First and Second Banks of the United States. BUS 1.0 and 2.0 were simply special, federally chartered banks that served as the government's fiscal agent. The government kept its funds on deposit at the BUS. The BUSes ended up playing a central bank (i.e., a bank for banks) role, but that was solely because of their size and branch network, as state chartered banks could not engage in interstate branching at the time, not because of any particular statutory authority or charge.

BUS did some important things the Fed doesn't do and didn't do some key things the Fed does. Unlike the modern Fed, BUS 1.0-2.0 routinely made commercial loans. It was the largest single commercial lender in the United States. That's not what the Fed does (13(3) emergency lending powers aside). Also unlike the Fed, BUS 1.0-2.0 did not perform open market operations; there simply weren't markets in Treasury debt like there are today, as it was issued much less frequently. And unlike the Fed, BUS 1.0-2.0 did not produce a national currency. BUS notes were not legal tender, even if they could be used to pay federal obligations (which were rare in the age before federal income taxation).

Critically, BUS 1.0 and 2.0 were wholly private entities, even if the US government was their largest (~20%) shareholder. They had zero regulatory authority (and pre-dated the regulatory state). The closest (and still weak) analog to BUS 1.0-2.0 is a regional Federal Reserve Bank; there is no analog between BUS 1.o-2.0 with the Board of Governors, which is where the removal issue lies. The Federal Reserve System was not an attempt to create BUS 3.0. Instead, it was a wholly different regulatory structure. The Fed is not in any meaningful way part of "the distinct historical tradition of the First and Second Banks of the United States" other than on the incredibly generic level of being a central bank.

There Is No Principled Distinction Possible Between the Board of Governors and the NLRB or MSPB for Removal Purposes

What we have here, then, is the Supreme Court trying to side-step the fact that there is not basis for distinguishing the Board of Governors of the Federal Reserve System from the NLRB or MSPB for purposes of for-cause removal. In order to claim a distinction, the Court has had to blur three separate legal entities together, pretending one is another, and then invent a history on which it was not briefed and for which there is no scholarly support. There's no nice way to say this: the Court is just making shit up. For all the fancy robes, this is a place I can see that the emperor has no clothes.

If the Court were being honest it would have to face the fact that there is no principled way to distinguish the for-cause removal protections of the NLRB or MSPB from those of the Federal Reserve Board. There is no principled way to preserve for-cause removal for the Fed, while jettisoning it for other agencies. If this Court is going to make up facts about the organization and history of parts of the government to achieve the political outcome it wants, it seriously erodes its legitimacy. It it really is all just politics, why should we listen to these bums?

I am hopeful that when this case is fully briefed on the merits, the Court will back away from a very ill-considered position.

Forcing Bank Deposits to Subsidize Stablecoins: the GENIUS Act

Adam Levitin — 2025-05-07T19:34:39-05:00

The Senate is set to take up a vote on this Thursday on the GENIUS Act, the legislation to create a regulatory framework for stablecoins. Whatever else one might think about stablecoins or the GENIUS Act, its insolvency provisions are an absolute mess, both conceptually and in drafting. If the GENIUS Act becomes the law, we're in for a FUBAR situation when a stablecoin issuer ends up insolvent. Even more concerning, if a bank custodian for a stablecoin issuer's reserves ends up insolvent, the claims of the stablecoin investors will come ahead of the bank depositors. That's right. Crypto comes ahead of ma-and-pa.

The effect: stablecoins are being subsidized by bank deposits. Now that's GENIUS.

There are two sections of the GENIUS Act that deal with insolvency. Section 11 deals with the insolvency of a stablecoin issuer and the problem of redemption rights, while section 10 deals with the insolvency of a custodian of a stablecoin issuer's reserves. Both have problems.

Stablecoin Issuer Insolvency

Section 11 provides that the reserves of a stablecoin issuer are not property of the issuer's bankruptcy estate, but extends the automatic stay to acts to redeem stablecoins, and provides that any stub claim after reserves are used up on redemptions has priority over everything. There are three problems here:

(1) The claims of stablecoin investors have priority over everything. That's a problem because there's no way to pay the bankruptcy professionals needed to run the case if the stablecoin investors come first. This is insolvency law 101: you have to pay the gravedigger first. Without a provision for paying the professionals, there won't be a bankruptcy, just a grab race.

(2) The stablecoin issuer's required reserves are deemed not to be property of the estate. I'm not entirely sure how that provision applies: how do we know if a particular Treasury bond owned by the issuer is part of the required reserves or is a side investment by the issuer? Even if we can figure out what is covered, excluding the reserves from the property of the estate is a problem because if an asset isn't property of the estate, then the estate has no business justification for doing anything with those reserves. It certainly should not be spending estate resources enabling a distribution of the reserves, and there's no authorization for a 506(c) charge or the equivalent. If the estate doesn't do anything with the reserves, it's going to be a mess for investors, who will end up in a grab race for the reserves. An investor might be owed $1 million, but the reserves might be in the form of a $10 million 10-year Treasury bond. Someone has to liquidate that bond, and doing so won't be free. So who is going to pay to liquidate the bond? How are those costs going to be shared among stablecoin investors? I have no idea.

(3) The automatic stay is extended to redemptions of the issuer's reserves, but can be lifted if reserves exist for a ratable distribution. But this conflicts with the reserves not being property of the estate. Again, why should the estate spend money to facilitate the redemptions? Why would the estate want to pay real value to reacquire the stablecoin? Indeed, unlike all other actions covered by the automatic stay, a redemption is not a unilateral collection act by a creditor, but is a bilateral action that requires the cooperation of the stablecoin issuer. Lifting the stay only allows investors to make redemption requests; it does not obligate the debtor-issuer to fulfill those requests.

(4) The lift stay provision envisions a final order to lift the stay being entered within 14 days of the lift stay hearing. I don't know how that interfaces with FRBP 4001, which generally requires a 14 day stay of any lift stay order, so we're looking at 28 days from the lift stay hearing, which itself could happen a month into the case. In other words, there could easily be 2 months of illiquidity for stablecoin investors (and then no guaranty of what they will recover). Again, an order to lift the stay isn't the same as an order to redeem the stablecoins, and I don't see any basis for a court to direct the issuer-debtor to undertake a (costly) redemption process.

Those issues alone will make any stablecoin issuer bankruptcy a complete mess. I have no idea how a court will work through them, but whenever you have unclear law, the result is more delay and more attorneys fees, none of which is good for stablecoin investors.

(Adding to the mess is some sloppy drafting: section 11 refers to an attestation that does not exist and requires (rather than merely allows), the Comptroller of the Currency to show up and be heard on any issue, meaning that the Comptroller has to make an appearance even if he has nothing to say. Every bill has some sloppy language, but here it is indicative of the bankruptcy provisions not being fully thought through.)

Stablecoin Issuer Reserve Custodian Insolvency

Then there's section 10, which deals with the effect of the insolvency of a custodian of the issuer's reserves. Section 10 says that the reserves are to be treated by the custodian as property of the stablecoin investors and that they are normally to be segregated, but it allows commingling of the reserves of different stablecoin issuers and allows cash reserves to be commingled with the cash deposits of other bank customers. Section 10 also says that the claim to the reserves of the stablecoin investors shall have priority over all other claims (absent consent). That means that in regard to cash deposits, the stablecoin investors will have priority over the claims of ma-and-pa for their bank deposits (and thus over the FDIC's subrogation claim when it pays ma-and-pa).

Yes, you read that correctly: Congress is about to put the claims of stablecoin investors ahead of ma and pa's bank deposits. That's just stunning. Now ma-and-pa's deposits are FDIC insured, so they'll be alright, but it means the FDIC's Deposit Insurance Fund is footing the bill. In other words, the GENIUS Act is subsidizing stablecoin issuance on the back of bank deposits. By subordinating the FDIC's subrogation claim in a bank insolvency to the claims of stablecoin investors, the GENIUS Act is effectively letting FDIC insurance leak out to cover uninsured stablecoins, without any insurance premiums paid. That's just wrong. Whatever the merits of stablecoins, they shouldn't be subsidized by the banking system. Satoshi would be turning in his grave to see his vision of an unintermediated p2p payment system be transformed into a centralized system that relies on a forced subsidy from the banking sector.

Pete Rose and Investment Markets

Adam Levitin — 2025-05-03T12:29:44-05:00

Hopefully readers will indulge me in a bit of a tangent for this post, which is about Pete Rose and his gambling, which often seems to be just another word for investing, particularly when investing in tokens that have no underlying fundamentals.

Rose, the all-time baseball hit leader and one of the most fun players to watch, was famously banned from the Baseball Hall of Fame for gambling on baseball, including on games in which he played or managed. There's now a push to posthumously rehabilitate him, with the President of the United States serving as one of his chief advocates. The President's argument is that Rose didn't do anything so bad because he never bet against his team.

That's just incorrect. Rose claimed that he never bet against his team. We don't know if he did; he wasn’t the most credible character, given that he initially denied gambling on baseball at all. But let’s assume that he told the truth. Even if Rose never placed a bet directly against his team, he was absolutely betting against them because he wasn't placing one-off bets. He was a serial gambler with repeat relationships with a number of bookies. In that situation, gambling only on the Reds to win on certain days translates into gambling on the Reds to lose on other days.

Here's how. Suppose that Rose bet for the Reds to win on Monday, but didn’t bet on Tuesday. The signal that would send to the bookie is that Rose thought the Reds would lose on Tuesday. That’s valuable information for a bookie, who could adjust his odds for Tuesday's game accordingly: the bookie will offer better odds that the Reds will win on Tuesday (say plus +225 rather than +200) to attract more bets that won't pay off. The bookie will thus make more money when the Reds lose. Rose not betting on Tuesday is a win for the bookie.

The bookie wants to keep that information coming, which means he needs to keep Rose’s business; Rose could bet with any number of bookies. So what’s the bookie going to do to keep Rose's bets? He’s going to offer Rose better odds on Mondays, say +250, rather than the proper moneyline of +200, kicking back some of the gains from Rose’s tip about the Reds on Tuesday.

This is a good deal for Rose—he can claim that he is only betting for the Reds to win and he's able to get better odds than a regular punter like Nathan Detroit. It's a deal that Rose would want to keep going, but for it to work, Rose generally needs to be right about the Reds losing on Tuesday. And that’s something Rose has some control over as manager-player: he can field a lousy lineup, make bad calls (say an intentional walk or bringing the infield in), or just boot a play himself. Any which way, Rose is betting against his team. He’s just doing it in a more subtle way by getting paid extra on his bets for the team in exchange for making sure the Reds lose when he doesn’t bet for them.

So what does this have to do with credit and debt? Well, in the first instance, we haven't even talked about whether Rose had a line from a bookie—basically was he betting on margin? If so, that would give the bookie even more influence over what happened on Tuesdays: "Hey Pete, I can roll over your debt, but you really need to have Larkin and Griffey sit out the game tomorrow. I'm sure they could use a rest...." Debt gives creditors substantial ability to dictate debtor's behavior. Especially when non-payment can cost the debtor a kneecap.

And more generally, the Rose case illustrates that markets with repeat relationships can involve more complex arrangements, such that facial economic arrangements aren't always the same as the real economic arrangement.

None of this is to say whether Rose should be in the Hall of Fame. He was unquestionably one of the greatest baseball players ever. And sports betting has, for better or worse, become normalized in the United States in recent years. But let's not pretend that Rose was gambling only for the Reds to win. If he was only betting when he thought they would win, he was necessarily also betting against them.

The Form Knows Best (Does it Really?)

Mitu Gulati — 2025-04-22T00:25:21-05:00

A few weeks ago, I got to give a talk at the University of Miami. The focus: six myths about contracts, as many of us teach contract law (or at least as I teach it). The talk was a blast -- the faculty at Miami were wonderful and generous, but poked all sorts of big holes in my claims. The broader topic, in a little essay titled "The Form Knows Best" with two superb students (Tara Chowdhury and Faith Chudkowski), was the gravitational pull of the standard form on contract drafting practices. Our abstract:

Law students learn that contracts are carefully negotiated, precisely drafted, and shaped by doctrine. But lawyers tell a different story. This article compares six pillars of contract law with what we heard in over 170 interviews with senior transactional lawyers across M&A, sovereign bonds, and leveraged loans. The result is a gap between the Official Story taught in classrooms and the Unofficial Story told by practitioners—where boilerplate dominates, case law is rarely consulted, and market custom often prevails over rational design. We suggest that many contracts are better understood as historical artifacts—products of inherited forms and production pressure. Or, as one lawyer put it, more Mars Bar than masterpiece. That gap may matter—especially when courts often interpret form as if it reflects intent.

One of my favorite bits of the exercise of working on the article was going through the hundreds of pages of transcripts from our interviews (to be fair: Tara and Faith, my co authors, did all the heavy lifting in painstakingly working through the interview recordings and transcripts). And one of the quotes they found, that we start the Essay with, is my favorite. The quote is below (from a Magic Circle Firm lawyer, talking about the drafting of bonds versus loans).

Bonds are Mars Bars. Loans are bespoke cakes . . . A bond or Mars Bar is what the client wants, what the banks are marketing, what the investor expects. It needs to be recognized as such. Everyone understands Mars Bars are mass produced, barely edible things . . . you have Snickers [in the U.S.]. Bespoke cake or loans may taste better, but you do not know what it is until you have tasted it. They are unique, non-fungible and not really tradeable. Mars Bars are mass produced, fungible, and tradeable. And when changes are made, provided the end-product is recognizably-packaged . . . changes do not really matter—but big changes may matter when digestion time comes.

The always brilliant Glenn West, was kind enough to pen a comment. "The Form Doesn't Know Anything". Glenn on the realities of contract drafting is always worth reading. He is both funny and insightful. His abstract is here:

Merger and acquisition agreements differ significantly from sovereign bonds. While I have criticized the stubborn persistence of harmful or ineffective boilerplate in the M&A deal world, this persistence does not stem from a desire for uniformity or blind adherence to a sacred form. The dynamics involved in negotiating merger and acquisition agreements often dictate that comments on a form agreement be kept to a minimum, making the improvement of the form a secondary goal. Moreover, what one party considers bad boilerplate may be seen as beneficial by another. Many of the myths supposedly debunked by Chowdhury, Chudkowski & Gulati may, in fact, not be myths at all, at least in M&A. But one conclusion they draw appears to apply equally to M&A—the tug of form and market is strong indeed.

Deliberately Polluting the Death Master File Violates the Fair Credit Reporting Act

Adam Levitin — 2025-04-11T09:33:33-05:00

The Trump administration seems to be walking straight into a pair of Fair Credit Reporting Act violations by placing immigrants whom it knows to be alive on the Social Security Administration’s Death Master File. The Death Master File is a list compiled by the Social Security Administration of people Social Security believes to be dead (generally based on the filing of death benefit claims with Social Security, so it is not at all a complete list of who is actually dead). Creditors and other users of consumer reports regularly use the Death Master File, either directly or through a consumer reporting agency, as part of credit granting, employment, or insurance decisions—you don't want to be doing business with someone who is dead (and that might indicate that the living person with whom you are dealing isn't who they say they are). So, Death Master File issues end up being consumer reporting issues and fall under the Fair Credit Reporting Act, violations of which can not only create substantial private civil liability, but they can also be enjoined in a suit by a state attorney general.

FCRA Violation 1: Knowingly Furnishing Inaccurate Information

The FCRA prohibits any “person” from furnishing "any information relating to a consumer to a consumer reporting agency if the person knows or has reasonable cause to believe that the information is inaccurate.” Telling consumer reporting agencies that someone is dead when you know they are not falls squarely within that prohibition. The term “person” is defined in the FCRA as including “government or governmental subdivision or agency,” and the Supreme Court recently ruled unanimously that the FCRA applies to the government when it furnishes information to consumer reporting agencies and that the government is not protected by sovereign immunity from FCRA suits.

Knowingly furnishing inaccurate information does not itself produce private civil liability, but it can be enjoined in an action by a state attorney general: the FCRA specifically authorizes this, and even if it didn’t, a state attorney general could probably achieve the same result through the Consumer Financial Protection Act. (A violation of the FCRA is separately a violation of the CFPA, and I cannot immediately see why the FCRA’s remedial limitations would apply to a separate violation of the CFPA, although perhaps there is an issue with inconsistent definitions of "person" between the statutes.)

FCRA Violation 2: Failure to Follow Reasonable Procedures to Assure Maximum Possible Accuracy of Information

The FCRA imposes a duty on “consumer reporting agencies” to “follow reasonable procedures to assure maximum possible accuracy of the information concerning the individual about whom the report relates.” The federal government is, arguably, a consumer reporting agency itself.

SCOTUS has long told us to read statutes literally, and the literal application here is straightforward: the FCRA defines a “consumer reporting agency” as “any person which for monetary fees…regularly engages…in the practice of assembling…consumer credit information or other information on consumers for the purpose of furnishing consumer reports to third parties”. So we need: (1) a person, (2) regular assembly of credit information on consumers, and (3) provision of the information to third parties for a fee. We’ve already seen that the government is a “person” for FCRA purposes. The government is regularly assembling consumer death information, which is absolutely relevant for credit granting decisions. And the federal government sells the Death Master File to third parties for a fee.

There is some older caselaw saying that the federal government is not a consumer reporting agency, but it's readily distinguishable: it's mainly old (and therefore starts with legislative history, rather than text) and it isn't in the context of the federal government selling data (the only circuit-level decisions relate to FBI files).

Taking the FCRA on its face, then, the federal government is a consumer reporting agency and therefore subject to FCRA’s requirement that it "follow reasonable procedures to assure maximum possible accuracy of the information concerning the individual about whom the report relates.” Knowingly adding living people to the Death Master File is hardly following reasonable procedures for assuring maximum possible accuracy.

Willful failure to have procedures to assure maximum possible accuracy is a FCRA violation that results in private civil liability, including statutory damages. A single violation concerning hundreds of thousands of people could readily result in hundreds of millions of dollars of liability. (I have not been able to find any controlling authority on whether there would be only a single violation or a separate violation each day. If it is anything other than a single violation, this could turn into an astounding amount of liability very, very fast if the administration does not stop.)

The liability issue is secondary, however, as any state attorney general could sue for injunctive relief on the matter and save the federal government a lot of money.

Collateral Damage

There is also some collateral damage to messing with the Death Master File: any consumer reporting agency that relies on it now does so at its own peril. It’s hard to square reliance on the Death Master File with the duty of having procedures to assure maximum possible accuracy when you know that thousands of people who are not in fact dead have deliberately been added to the Death Master File. We’ll find out how risk adverse consumer reporting agencies are, but the Death Master File’s usefulness as a credit screening tool might have been substantially impaired.

Fair Lending Deception by the CFPB

Adam Levitin — 2025-03-27T19:38:42-05:00

The Trump CFPB is seeking to vacate the consent order it entered into Townstone Mortgage for alleged violations of the Equal Credit Opportunity Act (ECOA). According to the Trump CFPB, CFPB staff engaged in misconduct by bamboozling former CFPB Director Kathy Kraninger about the legal strength of the case because they were woke warriors who took the position that “disparity automatically equaled discrimination,” and “wanted a de-facto mortgage quota, a policy aligned with the views of radical DEI proponents like Robin DiAngelo and Ibram X Kendi.” That view is hard to reconcile with the total number of discriminatory lending suits the CFPB has brought over the past eight years: all of seven cases. Yup, that sure sounds like an out-of-control agency.

If the Trump-controlled CFPB wants a consent order vacated "in the interests of justice," the district court should require it to prove both that there was in fact misconduct and that the misconduct harmed the defendant. The only "evidence" of this supposed misconduct is a self-serving, hearsay declaration by Dan Bishop, the Deputy Director of OMB (deputized to CFPB) reporting on his own alleged investigation. That's not "evidence." (And that's putting aside whether Bishop has been legally appointed to a CFPB position...)

But even if Bishop's story is credited entirely, there's still a problem. The supposed misconduct related to disparate impact liability and the reason the CFPB served a Civil Investigatory Demand on Townstone in the first place, but the defendant was sued for facial discrimination based discouragement of credit applications based on public statements its CEO made on a radio show named after the company. The Bureau could have brought the case without the information from the Civil Investigatory Demand. There’s no nexus between the supposed misconduct and the CFPB’s lawsuit, so there cannot be prejudice to the defendant. Accordingly, there's no reason to vacate the judgment in the interests of justice.

Here’s the background. In 2020, the Trump-appointed CFPB Director, Kathy Kraninger, approved an enforcement action against Townstone Mortgage and its CEO, Barry Sturner, for violating ECOA. The basic allegation in the suit was that comments Sturner made on the radio denigrating the predominantly black South Side of Chicago "discouraged prospective African-American applicants from applying for mortgage loans; discouraged prospective applicants living in African-American neighborhoods in the Chicago MSA from applying for mortgage loans; and discouraged prospective applicants living in other areas from applying for mortgage loans for properties located in African-American neighborhoods in the Chicago MSA.” Specifically, Sturner is alleged to have referred on the radio to the weekends on the South Side as “hoodlum weekend” and stated that the police are “the only ones between that [area] turning into a real war zone and keeping it where it’s kind of at.” He described the Jewel-Osco grocery store on Division Street as the “Jungle Jewel.” The only ECOA claim the CFPB made was a discouragement claim. There was no disparate impact claim in Townstone.

Townstone argued in its motion to dismiss that ECOA covers only actual discrimination in lending (disparate policies or disparate impact), not discouragement. It never raised a 1st Amendment challenge to ECOA in the district court. ECOA provides that:

It shall be unlawful for any creditor to discriminate against any applicant, with respect to any aspect of a credit transaction—

(1) on the basis of race, color, religion, national origin, sex or marital status, or age (provided the applicant has the capacity to contract).

The ECOA defines “applicant” as “any person who applies to a creditor directly for an extension, renewal, or continuation of credit, or applies to a creditor indirectly by use of an existing credit plan for an amount exceeding a previously established credit limit.”

While this definition might seem to make ECOA's prohibition applicable only to someone who has actually applied for a loan, rather than a mere prospective applicant, Regulation B, the implementing regulation, has since 1975 made clear that the prohibition extends to discouragement of applications. The implementing regulation was originally drafted by the Federal Reserve Board, but transferred to the CFPB, which revised it in 2016 in ways that are not germane.

Townstone won in the district court, but the case went up to the 7th Circuit, where (post-Loper Bright) the CFPB prevailed on the interpretation of ECOA. Frankly, the 7th Circuit’s interpretation makes sense: if the lender is flying a swastika flag, it hardly needs to reject Jewish application—they won’t apply—so that even if the lender does not actually discriminate toward applicants, the discouragement of applications produces the same result, namely a reduction in lending to people solely because of their membership in a protected class. That’s exactly what ECOA is supposed to prevent.

After the 7th Circuit ruling, Townstone entered into a consent order with the CFPB, while the suit against Sturner was dismissed with prejudice.

The Trump CFPB is now seeking to have the consent decree vacated based on a sort of “fruit of the poisonous tree” theory, namely that Townstone should never have been in the CFPB’s sights in the first place, but only ended up as an enforcement target because of statistical disparities in lending, namely that it was making a much lower percentage of its loans to blacks than would be expected by the population geographic area it serves. The apparent motivation was that the Bureau's staff allegedly took the position that “disparity automatically equaled discrimination,” and that they “wanted a de-facto mortgage quota, a policy aligned with the views of radical DEI proponents like Robin DiAngelo and Ibram X Kendi.” The Trump 2.0 CFPB is alleging that the Trump 1.0 CFPB was biased to see disparate impact discrimination anywhere that there was a statistical difference in white and black borrowers getting loans.

This is beyond bizarre. Ibram X. Kendi is as irrelevant to this case as Ayn Rand. Looking for statistical disparities in lending is exactly what the Bureau is tasked with doing: that’s the whole reason the Home Mortgage Disclosure Act exists. But mere statistical disparities are not alone an ECOA violation. Indeed, if the CFPB were actually a bunch of woke warriors insistent that any lack of equal outcomes is discriminatory lending, then one would have expected a flurry of disparate impact suits to have been brought by the CFPB under Directors Kraninger and Chopra. Instead, the total head count of discriminatory lending suits brought by the Bureau in those eight years was…seven, including Townstone. That’s two under Kraninger CFPB and five under Chopra CFPB. (I’m excluding suits about HMDA reporting issues or failure to give proper adverse action notices, but that just adds a few more cases anyhow). Let that sink in: this supposedly out-of-control regulatory agency has brought all of seven discriminatory lending cases in the past eight years.

In any event, the Bureau’s conduct and motivation regarding disparate impact is irrelevant here: this was a discouragement case, not a disparate impact case. The issue was Sturner’s statements, not the actual lending.

As for those statements, they were, according to the Trump CFPB, were just run of the mill speech. Sturner was supposedly merely "talking about local crime, political issues around freedom of speech, supporting local law enforcement, and telling people to check out a neighborhood before buying a home.”

Sturner’s statements were not the strongest set of facts for a discouragement case because there’s some deniability in them—he didn’t come out and say “Blacks need not apply”—but I grew up on the South Side of Chicago. To me, it’s obvious what Sturner was saying. But don't take my word for it. Here's a Reddit from 2018 (after Sturner's comment, but prior to the CFBP's suit) in which commentators point out the origins of the "Jungle Jewel" name—it was across the street from the infamous Cabrini-Green housing project—and some of the commentators even call out the term as racially offensive.

I hope the district court presses the CFPB to produce some evidence to back up its claims that there was misconduct and bias and that such misconduct or bias had any bearing on Townstone’s liability. If the CFPB cannot prove that misconduct or bias prejudiced Townstone, the court should leave the consent order intact.

Post script: The Vought CFPB’s actions are a signal that lenders are free to engage in discriminatory discouragement for the next four years. But lenders should remember that ECOA and Reg B are still on the books and have a 5 year statute of limitations.

Post post script: Given that the Bureau employees who actually know anything about the case or its background are all off on administrative leave, one has to wonder how the five guys in a room with a phone discovered all the alleged misconduct and bias and wrote up the press release. Could it have been drafted by defense counsel or associated think tanks (Pacific Legal...)?

Post post post script: I'm left wondering if anyone will try to intervene in the case. The most obvious parties to me are the City of Chicago and the Illinois Attorney General.

23andMe Bankruptcy

Adam Levitin — 2025-03-24T19:10:29-05:00

Quite a bankruptcy week. First there was Forever21's gone forever 22, and now we have 23andMe. Kudos to the Slips' own Melissa Jacoby and her co-authors Sara Gerke and Glenn Cohen for having the most timely publication ever regarding the 23andMe bankruptcy filing. But there are some weird things about this case, namely the debtor acquiescing in a massive stay violation and the St. Louis, Missouri, venue.

Summary of the situation

As Gerke, Jacoby, and Cohen note, bankruptcy is not particularly protective of personally identifiable customer information. Section 363(b) allows the sale of assets outside of the ordinary course of business, and all that genetic data is 23andMe's biggest asset. Section 363(b)(1), however, provides that if the debtor has a privacy policy, then the sale of personally identifiable information must either (a) be consistent with the privacy policy or (b) not violate any "applicable nonbankruptcy law".

The problem is that while 23andMe has a privacy policy, that policy expressly allows for a sale of the data in bankruptcy, so a sale would probably be consistent with the privacy policy (unless some other terms is at issue). Nor does it appear that any applicable nonbankruptcy law that would be violated because HIPAA, the main healthcare privacy statute, does not apply here.

To be sure, the bankruptcy court can (and probably will) appoint aks to an external site.consumer privacy ombudsman, who will at least be a neutral, estate-funded source of expertise and advocacy. Even though the ombudsman is just a voice in the room, nothing more, the ombudsman can use its position as a bully pulpit to get sale terms that are at least better for consumer privacy. As it happens, however, 23andMe has proposed bidding procedures that "require any person or entity who wishes to participate in the Auction to comply, in all respects, with the Debtors’ existing consumer privacy practices" and "require an affirmative statement as part of any bid acknowledgment of such compliance." In other words, whatever privacy you had going into the bankruptcy, you should have it coming out. But that's all by the debtor's good graces, rather than because of any legal protection.

Is the Debtor Soliciting Stay Violations?

So what's a concerned 23andMe user to do? Well, as Geoff Fowler's Washington Post column states "Delete Your Data Right Now." Astonishingly, that is still possible to do. 23andMe saysLinks to an external site.that they are allowing data to be deleted by customers, even post-petition.

I'm frankly surprised. 23andMe's most valuable asset is its customer data. Deletion of data sure seems like an automatic stay violation, as it is "any act to ... exercise control over property of the estate". I cannot understand why 23andMe would acquiesce and encourage such a stay violation that is destroying valuable estate property. The stay isn't the DIP's to waive unilaterally without court authorization. Maybe I'm missing something here, but as far as I can tell, this action might open up the DIP's board to a derivative suit and a motion for appointment of a trustee or examiner. It might also open up the DIP's proposed bankruptcy counsel, Paul Weiss (!), to a challenge to its retention application and even conceivably a malpractice suit by the estate or derivatively on its behalf.

Let me be clear: allowing customers to delete their personal data is the decent thing to do. But a bankruptcy estate is not a charitable enterprise. It's fraudulent transfer law 101 that a debtor cannot just give away its assets. Moreover, 23andMe already seems to be trying to ensure compliance with its privacy policy as part of the bidding procedures. Nor can it credibly be claimed that allowing deletion of accounts is just "use, sale, or lease" of estate property in the ordinary course of business. The estate is not using the property when it is deleted. It is being denied the use of the property. At best, allowing deletion of actions is about maintenance of a customer program, something for which 23andMe filed a first day motion, but that motion does not mention account deletion. Trying to be good people on data privacy is not a legal defense to wasting estate assets any more than "it was for charity" is a defense to having donated estate property post-petition without court authorization. I have trouble understanding why the DIP did not pause all deletions until the court orders otherwise; this isn't the sort of thing for which you should seek ratification nunc pro tunc. As it is, someone might reasonable want to know how many accounts were deleted post-petition. The DIP will be in a very awkward place to refuse such a request. Once it becomes know how many accounts were deleted post-petition, it's going to become clear how much value was destroyed by allowing post-petition data deletion, and if it's more than de minimis, then the litigation specter arises.

What's with the Venue?

On top of all of this, there's a venue question. Why did 23andMe file in St. Louis, which is hardly a go-to filing destination? 23andMe is incorporated in Delaware and has a California headquarters, so it had plenty of good alternative venue options. Plus anyone who bothers to get a PO box at a UPS store 24 hours before a petition can generate venue in Texas these days. So there's always a Texas option it seems. 23andMe does have a legitimate Missouri-based subsidiary, so I'm not making any claim about illegitimate venue, but one has to wonder what drove the Missouri filing?

One cannot credibly claim that the filing decision was based on the "predictability" or "experience" of the EDMO bankruptcy bench with big chapter 11s. Paul Weiss had some reason for wanting the St. Louis venue. Maybe there was an issue with the assumption of IP licenses—both the 3rd Circuit and 9th Circuit are "hypothetical" test jurisdictions for 365(c), meaning that the debtor cannot assume IP licenses that it cannot hypothetically assign without the consent of the licensor. There's no 8th Circuit ruling on the issue, but if that was really the driver, why not file in Texas, which is in an "actual" test circuit? I'd love to know more on what was driving the venue choice here. Comments are open.

The Supreme Court Invites Bank Fraud Sophistry

Adam Levitin — 2025-03-22T22:51:59-05:00

The Supreme Court, in a decision that will surely be beloved of law professors, held that the bank fraud statute applicable to loan applications covers only actually false statements, not merely misleading statements. The Court got to flex its "oh look at how smart we are" muscle with clever illustrations of the difference between false and misleading statements:

If a tennis player says she “won the championship” when her opponent forfeited, her statement—even if true—might be misleading because it could lead people to think she had won a contested match. The Government also agreed at oral argument with another example: If a doctor tells a patient, “I’ve done a hundred of these surgeries,”
when 99 of those patients died, the statement—even if true—would be misleading because it might lead people to think those surgeries were successful.

And not to be outdone, Justice Alito adds in his own precocious observation in a concurrence:

After noticing that a plate of 12 fresh-baked cookies has only crumbs remaining, a mother asks her daughter, “Did you eat all the cookies?” If the child says “I ate three” when she actually had all 12, her words would be literally true in isolation but false in context. The child did eat three cookies (then nine more). In context, however, the child is implicitly saying that she ate only three cookies, and that is false.

Come on. Would common sense possibly suggest that Congress intended to allow misleading, but not literally false statements on bank loan applications? The result is absurd. Nothing in the legislative history would suggest that Congress wanted such a constrained view of the statute; indeed the legislative history isn't discussed, but there's lots of dictionary definition discussed. Apparently we are ruled by Merriam-Websters, rather than common sense. (And if that's the case, lets just have an AI judge and avoid all the SCOTUS nomination strum und drang). The Court's ruling is an invitation to the Holmesian bad man to go right up to the line of what is false. It all but invites Clintonian sophistry.

But given the Court's casuistry, let me pose my own: if a bank's credit application included a question "Have you made any misleading statements on this application?" and the answer was false, would that trigger a violation of 18 U.S.C. § 1014?

I think the answer is yes. That suggests a simple regulatory fix to this bad decision: bank regulators should insist that bank loan applications include a declaration that the applicant has not made any misleading statements in connection with the application.

Is Greenpeace Heading for Bankruptcy?

Adam Levitin — 2025-03-20T22:26:19-05:00

[Updated 3/26/25: I jumped the gun here; it's an occupational hazard of blogging.

It turns out that the North Dakota Rules of Civil Procedure are not the only North Dakota law on supersedeas bond requirements. Tucked away among the Century Code's provisions about the technical mechanics of execution and levy by sheriffs is a provision in the North Dakota Century Code that places a dollar limit on the supersedeas bond requirement. It limit the aggregate supersedes bond requirement for all defendants in a case to $25 million. That seems like a much more achievable figure for Greenpeace. as far as I can tell, the bonding limit came out of tort reform efforts. Who would have expected it to benefit an environmental group?

Assuming that the North Dakota courts follow the $25 million bond limit, I would expect Greenpeace to be able to post the bond, in which case bankruptcy would not be needed.]

It appears that the terminus of the Dakota Access pipeline is...Chapter 11. That's where I believe Energy Transfer's $660 million trespass and defamation verdict against Greenpeace in North Dakota state court is going to end up. Although Greenpeace is vowing to appeal the verdict, that's just a brave face. Greenpeace won't be able to post the supersedeas bond, and its US entities, at least, will likely end up filing for bankruptcy.

To recall, Greenpeace was involved in the Standing Rock protests against the construction of the Dakota Access pipeline. Energy Transfer Partners, the company that built the pipeline, sued Greenpeace for trespass and defamation (plus a RICO claim). I have no idea about the merits of the suit, but a Morton County, North Dakota, jury handed down a $660 million verdict against three Greenpeace entities: Greenpeace USA (technically Greenpeace, Inc. 😂, a California corporation, which seems to be the US operating arm), the Greenpeace Fund (another California corporation, which seems to be the domestic fundraising arm), and Greenpeace International (a Dutch stichting, a uniquely Dutch form of corporate organization, which is the international umbrella organization). I haven’t seen all the details of the verdict, but I believe only Greenpeace USA is liable for trespass. I do not know if the verdict is joint, meaning that each entity is liable to the full amount, or several, meaning each entity is liable only for its pro rated share of the judgment.

Greenpeace has vowed to appeal, but the problem is that unless Greenpeace can post a supersedeas bond, the judgement is only stayed for 30 days, after which point Energy Transfer can start grabbing Greenpeace's assets. 30 days is not enough time to take an appeal, and there's no way that Greenpeace can find a surety company that will put a supersedeas bond for over $660 million. (The bond would probably be for the full verdict amount plus post-judgment interest, which at 11% annually in North Dakota.) No surety is going to write the bond because the Greenpeace defendants don't have anywhere close to the assets necessary to satisfy the judgment according to their 2023 financial reports (there's tens of millions, not hundreds of millions of liquid assets). That means that it simply does not matter whether Greenpeace has good legal arguments on appeal.

If Greenpeace cannot get the judgment stayed, Energy Transfer will be able to start seizing its assets—probably starting with the cash that it needs to keep operating—while an appeal is pending. Energy Transfer can easily get at many of the assets of the two US entity defendants—Greenpeace USA and the Greenpeace Fund. Those defendants have bank accounts and physical assets in the US. The only way to stop Energy Transfer from levying on those assets is a bankruptcy filing. Has Greenpeace started talking with bankruptcy counsel? If not, it should...

Here's how a Greenpeace bankruptcy probably plays out. First, a bankruptcy filing will substitute for the appellate bond in terms of staying Energy Transfer's efforts to execute on the judgment. Greenpeace will be able to proceed with the appeal without posting a bond, as the bond is not a requirement of the appeal, only a requirement for a stay of the judgment. But an appeal will not be heard and decided immediately. If I had to guess, it's going to take 9-18 months to have an appeal resolved, and Greenpeace will need bankruptcy protection in the meanwhile.

Greenpeace is sitting on enough cash (about $51 million for the domestic entities) that even if its fundraising dries up entirely while in bankruptcy, it should be able to keep operating. So Greenpeace probably files and just sits in bankruptcy, seeking to extend plan exclusivity "for cause" out to 18 months. If Greenpeace prevails on the appeal, it can dismiss the bankruptcy case, but it will have paid several million in professionals fees by that point.

If Greenpeace losses the appeal, then my best guess is that Greenpeace USA and the Greenpeace Fund would basically liquidate in Chapter 11: non-defendant Greenpeace entities set up a new 501(c)(3) entity that purchases all of the US defendants' assets in a 363 sale followed by a liquidation that tracks Chapter 7 priorities. What are those assets? At the end of 2023, there was a surprising amount of cash around—$48 million for the Greenpeace Fund and another $3 million for Greenpeace USA—but a bankruptcy can burn through cash at remarkable speed. Beyond the cash, it's probably things like office leases, IP licenses, employment contracts, office equipment, and a donor list. It's hard to imagine anyone other than Greenpeace being particularly interested in purchasing those, including Energy Transfer, which would be paying in real dollars because it cannot credit bid because it lacks a lien, and would be getting only an unsecured creditor's cut. If the non-defendant Greenpeace entities can put together a few million for a bid (as well as assumption of lease and contract liabilities), I think they get it for a pittance, although there is always the risk of Energy Transfer putting in a much higher spite bid (smart bidding procedures can reduce that risk....) So for the US entities, the only "winners" will be the bankruptcy professionals, who will get paid off the top. After they've been paid, Energy Transfer, as the largest unsecured creditor, will get the lion's share of what's left, but I'd be surprised if Energy Transfer ends up collecting more than low tens of millions and perhaps less.

Collecting from Greenpeace International, the Dutch stichting, is more complicated. First, there’s the matter of domesticating an American judgment in the Netherlands. Greenpeace International will have an opportunity to argue that the judgment is contrary to Dutch public policy. They might win on that. Second, even if the judgment is domesticated, it isn't entirely clear what assets are really in Greenpeace International vs. in other Greenpeace entities. Greenpeace International has consolidated accounting with some other entities, and it might be that the IP and the ships, etc. are all in separate non-defendant, and generally non-subsidiary entities. And on top of that, Greenpeace International can file for bankruptcy. It could always be a bankruptcy tourist in the US or perhaps it could file in the Netherlands for a WHOA (sort of a scheme of arrangement, rather than a liquidation). My non-expert sense is that a WHOA does not work here—even if a stichting is eligible and is able to do a cross-class cramdown (there's no equity interest with a stichting, so absolute priority rule isn't a problem), the composition will probably flunk a best interests test. If that's correct, then the best move would be file in the US and do the same dance as the US entities: a 363 sale followed by a liquidation tracking Chapter 7 priorities. If that's where things are heading, then Greenpeace International might as well file for Chapter 11 together with the US entities.

If I'm right about this, Greenpeace International's best move is to fight domestication of the judgment, but if that isn't successful, it can then try use Chapter 11 to move its operating assets to a new Greenpeace buyer (assuming one can be funded). It will, however, lose its cash and investments, either to the bankruptcy professionals or to Energy Transfer, so unless it can crank-up the post-bankruptcy fund-raising, it's going to have some trouble. I'm not sure if a bankruptcy in these circumstances helps or hurts on the fundraising. Most of the Energy Transfer judgment will get discharged, but the loss of tens of millions of cash and investments will be a hard blow to Greenpeace.

It'll be interesting to watch how this plays out, but at least for now, I think there are two lessons.

The first is one that the bankruptcy bar gets thanks to Texaco, but that isn't as well understood among lawyers more broadly: it's often impossible to appeal a large verdict because of bonding requirements. That's something that drives defendants toward settlement. I'd urge my civil procedure colleagues to spend a day on appeals and collections...

The second lesson is that given the change in the political environment, environmental activist organizations should be thinking proactively about limiting their litigation exposure. Greenpeace is tactically different and more aggressive than most organizations, but if you're going to be engaged in activities that have litigation risk, you should be thinking about judgment proofing yourself, which means taking some pages out of the oil and gas company playbook....

Where Have I Heard This Before?

Bob Lawless — 2025-03-12T10:59:34-05:00

James Nani posted a story at Bloomberg Law about Tara Twomey's dismissal as executive director of the U.S. Trustee Program. It's worth a read and not just because of the shout out to my earlier blog post here on Credit Slips.

Nani notes Twomey "isn't without critics." Fair enough, although that could be said for any effective governmental official. The critic in the article was Lawrence A. Friedman, himself a former executive director of the program from twenty years ago. From the article: "'Tara Twomey had no business being appointed to that job,' Friedman said. 'It was a political appointment at the behest of Liz Warren and others in the bankruptcy system.'" By "Liz Warren," I am fairly confident he meant Senator Warren.

The idea that Twomey had "no business being appointed" is appalling. Twomey had years of experience in consumer cases and business cases. Notably, she served as special consumer counsel in the chapter 11 of Ditech Holdings, a bankrupt mortgage servicer. She authored amicus briefs in consumer bankruptcy cases on behalf of the National Bankruptcy Rights Center. I am told her amicus briefs were cited more frequently in Supreme Court cases than any party except the solicitor general. She has taught courses at Stanford, Harvard, and Boston College. She was a member of the American Bankruptcy Institute's Commission on Consumer Bankruptcy, which has a full bio as of 2019 detailing her many accomplishments. At the time of her appointment, Twomey was a member of both the American College of Bankruptcy and the National Bankruptcy Conference. (Friedman is a member of neither.) These are prestigious, invitation-only organizations of bankruptcy professionals, although she had to resign from the NBC upon her appointment given that it takes substantive positions on bankruptcy policy issues.

Despite this record, Twomey had "no business being appointed?" Where have I heard that before?

Virtual Access to Event in Memory of Juliet Moringiello March 20 2025

Melissa Jacoby — 2025-03-10T10:13:27-05:00

Widener University Commonwealth Law School will hold an event honoring Professor Juliet Moringiello on March 20, 2025 at 1pm ET. Friends and fans of Juliet are welcome and encouraged to join virtually. The Zoom link is embedded in the image accompanying this post as well as accessible here. I will repeat what Widener says in the bottom of the image about Juliet: "Professor Moringiello was a beloved scholar, professor, mentor, author, administrator, colleague, and friend whose impact on our students and institution was profound and will never be forgotten. We gather to celebrate her contributions to the legal field, share memories, and find comfort in one another."

Making the Bankruptcy System Less Great

Bob Lawless — 2025-03-08T13:49:27-06:00

News reports this morning are confirming the rumors that went around the bankruptcy community last night. The Trump Administration has fired Tara Twomey as executive director of the Office of U.S. Trustees. This is a short-sighted and likely illegal decision.

The executive directorship of the US Trustee Program is a nonpolitical position. Twomey's predecessor served under both Republican and Democratic administrations. One report said the termination notice for another DOJ official cited Article II of the Constitution, meaning the Trump Administration must be relying on the wacky and ahistorical "unitary executive theory" where the president has unchecked power. That some judges and law professors have signed up for this idea does not make it any less wacky and ahistorical. The action against Twomey demonstrates that the only thing that matters now is loyalty to the president. Ability does not count. Twomey was a most able leader of the UST Program.

Without the US Trustee's objection, the Purdue Pharma case never would have reached the Supreme Court. The Court agreed with the US Trustee that bankruptcy courts lack the power to forgive the obligations of parties other than those in the bankruptcy case itself. In Purdue Pharma, that meant the Sackler family could not piggyback on the company's bankruptcy to escape accountability for their own actions. Twomey stood up to critics who said the US Trustee Program had "no skin in the game" and should not interfere in a deal that the parties had made. What the US Trustee Program did was exactly what it is supposed to do -- oversee the integrity of the bankruptcy system. It brought the issue to the Supreme Court for its decision on an issue that affects not just the victims of the Sacklers but millions of Americans who have been affected by corporate misconduct.

Under Twomey's leadership the US Trustee Program did dozens of things that make the system work just a little bit better for the people who need it. She oversaw online transition of 341 meetings, where filers must meet with their bankruptcy trustee. The conventional wisdom was that would never work because of security concerns until the necessity of COVID demonstrated otherwise. Twomey saw that the switch became uniform and permanent. Now, consumers do not need to choose between missing work or finding child care and filing bankruptcy. Online 341 meetings save money and are more efficient, which I understand is supposed to have some appeal in Washington currently.

Twomey successfully oversaw the issues created by Siegel v. Fitzgerald, where the Supreme Court blew a potential hole in the budget for the US Trustee Program. Under her leadership, the government litigated the consequences of the decision, resulting in a successful follow-up Court decision that kept the US Trustee Program as financially self sufficient and thereby saving federal money. I also understand those concepts are supposed to be in fashion.

Just last Monday, Twomey joined my Bankruptcy Seminar at the University of Illinois and for the third consecutive year. It is a big time commitment, and every year I have asked Twomey has cheerfully done it. Listening to her talk, the reason becomes apparent. She cares deeply about bringing along the next generation of young lawyers. We talked about the US Trustee Program's efforts to stop bankruptcy cheats--another way she worked to make the system better. We talked about the importance of judgment and exercising that judgment in a way that furthered the purposes of the bankruptcy system. She encouraged careers in public service. At one point, the conversation even turned to how serving as a government lawyer meant furthering the law the legislature has enacted and not imposing your personal preferences about the results you want.

Ironically, Twomey's departure from the DOJ demonstrates the opposite. We have a federal government now riddled with official and lawyers where loyalty is the only thing that matters, not ability and adherence to the rule of law.

The Trump Organization’s Shake Down of Capital One

Adam Levitin — 2025-03-07T18:15:19-06:00

The Trump Organization is trying to shake down Capital One. And they’ll probably succeed. The Trump Organization has sued Capital One for closing its accounts in January 2021, allegedly because of Donald Trump’s political views. (Or, put differently, Capital One decided that it was not good business to continue being associated with an entity connected to the January 6 insurrection.)

As a legal matter, the Trump Organization's complaint is risible; Capital One should be able to easily get the case dismissed. But that might not matter because the Trump Organization has them over a barrel: if Capital One doesn’t pay up, the implicit threat is that the Trump administration will move to block the Capital One-Discover merger and generally make life unpleasant for Capital One. (Of course, if the Trump administration were really clever, they wouldn’t have dropped the CFPB suit so fast, but that’s probably just that the right hand didn’t talk to the left.) That’s gangster capitalism and underscores the incredible conflicts of interest that continue to exist for Trump.

In terms of the legal issues, Capital One’s defense starts with the caption of the suit: the Trump Organization has the wrong defendant, lol! They sued “Capital One, N.A., a Virginia corporation”. No such entity exists. Capital One is a federally chartered bank (that’s what the N.A. means!) that just happens to be headquartered in Virginia. (It does count as a Virginia entity for purposes of diversity jurisdiction.)

Going beyond that, “debanking” is not a recognized tort. Accordingly, the Trump Organization has to try to cram its claim into various state consumer protection statutes. What’s weird is that it invokes the North Carolina, Nebraska, New Jersey, and Minnesota consumer fraud acts, despite alleging no connection whatsoever to those states in the facts. There are SO many problems with the complaint in this regard.

First, the Nebraska statute expressly exempts “actions or transactions otherwise permitted, prohibited, or regulated under laws administered by … any other regulatory body or officer acting under statutory authority of … the United States.” That seem to mean that it does not apply to a national bank like Capital One, N.A.

Second, the Trump entities aren’t based in Nebraska, NJ, or Minnesota, and neither is Capital one, and the debanking did not occur in those states. Instead, the Trump Organization alleges that those laws are applicable because “Capital One’s unlawful and deceptive de-banking practices, which terminate banking relationships based on a consumer or business' political views that are contradictory to those held by Capital One, are a matter of significant public interest to the residents of [Nebraska/NJ/Minnesota].” No actual effect on consumers in those states is alleged, however. There is generally a presumption against extra-territorial applications of state laws plus possible dormant commerce clause issues if there were extra-territorial application. Here it is hard to see how an extra-territorial application of any of those states laws could stand when no nexus to those states whatsoever is alleged. (If these laws can apply without any conduct next, then plaintiffs’ attorneys are going to have a field day: the NJ and Minnesota statutes in particular have some powerful provisions.)

Third, even there were an extra-territorial application of those laws, it’s hard to see how they’ve been violated. Banks are not common carriers. They do not have an obligation to serve all comers. As long as they do not violate laws prohibiting discrimination against protected classes, they are free to tell anyone to take a hike or to stop doing business with them, including based on a political disagreement. A bank does not have to provide services to the KKK or to the ACLU (lehavdil!), for example. The exception would be if Capital One made representations that it would not discriminate based on politics, but no such representations are alleged here.

Fourth, Capital One would have a plausible preemption claim to the application of state consumer fraud laws to its closing of accounts, even under Cantero. But I don’t think it would even need to go there to win.

Finally, remedies. Nebraska requires a showing that the practice affects the public in order for a remedy to attach, while Minnesota requires that the plaintiffs show that the suit benefits the public at large. Both would be challenges here, as there is no evidence of wide-scale politically-based debanking, as opposed to debanking because of risks attendant to particular lines of business.

So all that leaves is the Trump Organization’s declaratory relief claim under Florida law that Capital One improperly terminated its accounts. But that requires the court to have some metric for determining if the termination was proper. There’s no contractual hook alleged, and there’s no tort identifiable here, so it’s only the underlying consumer fraud claims. If the Trump Organization cannot prevail on the underlying consumer fraud claims, I’m not sure how they could prevail under a declaratory relief claim.

All in all, this seems like an open-and-shut Rule 12(b)(6) dismissal, if Capital One wants to litigate.

The real question here is whether Capital One is going to fight this, and, if so, how hard. Capital One should win this one if it litigates, but it will likely come at the cost of their merger with Discover. Paying a few million to the Trump Organization in a settlement is a very low cost for greasing the wheels for the merger.

It’ll be interesting to see whether Capital One caves immediately or at least starts to litigate. If they're going to litigate, one would expect the first move to be a motion to remove the case to federal court on diversity jurisdiction grounds (ironically, there is complete diversity here)…unless they’re worried that they get Judge Aileen Cannon. Given how fast we’ve seen media companies fold in the face of a Trump shake-down, I’m not expecting Capital One to stand strong on this. But if Capital One pays up despite have an incredibly strong case and its merger is then approved, it's going to be hard to avoid the impression that the settlement payment was a bribe to secure merger approval.

Juliet Moringiello - One of the Greats

Melissa Jacoby — 2025-03-06T15:07:38-06:00

Juliet Moringiello was an amazing person. Her alchemy of brain and spirit and energy and heart and common sense made a positive difference for so many people, across disparate places and professions. She could teach you how to navigate a commercial law and to downhill ski.

Testaments from Widener University Commonwealth Law School and professional organizations illustrate how Juliet served academic and legal communities with distinction. Examples include the Uniform Law Commission (including an instrumental role in the development of the 2022 amendments to the Uniform Commercial Code), American Law Institute projects, and as a scholar-in-residence for the American Bankruptcy Institute. Juliet did these things while also serving in critical leadership roles at Widener and offering engaged and committed classroom teaching, including first-year property law and an array of upper level classes and seminars.

Chris Odinet's memorial captures beautifully Juliet's commitment to helping others and building communities. As reflected in the mentoring award she recently received from the Commercial and Consumer Law Section of the Association of American Law Schools, Juliet did so much behind the scenes to lift up others and to help them improve their research and analysis.

Juliet was ideally positioned for mentoring because her own scholarship was creative and wide-ranging and yet reflected care and attention to detail. She offered important insights on municipal bankruptcy and related state law procedures. Whereas scholars and jurists long have referred to the "Butner principle" in the abstract, Juliet closely studied the case for which the principle is named, which turned out not to match how it was remembered. She explored poorly drafted statutory language that since 2005 has affected the treatment of car loans in Chapter 13 repayment plans for individuals and proposed an analytical framework accordingly. These are just a few of the examples of her writings in which a reader can find careful and sustained attention to the relationship between state and federal law.

With respect to state secured transactions law, Juliet comfortably traversed the border between real property and personal property. The problems dwelling from the tangible-intangible divide of personal property particularly attracted her attention. She explored puzzles that arise, for example, when one tries to apply fundamental concepts such as possession to remotely controlled activities.

And those projects dovetailed with Juliet's longstanding interest in understanding emerging technologies, and her ability to demystify how foundational commercial law concepts can be squared with innovation - from software licensing agreements and electronic contracting, to cyberspace and domain names and Second Life, to non-fungible tokens. As popular subjects for scholarship, writings on hot tech topics risk ephemerality. Juliet's work is built to last. She made these issues accessible while demonstrating how they could and should be situated in broader legal frameworks.

Of course, these professional interests were part of a rich multi-faceted life of family and friends, of appreciating the sights and nature in Pennsylvania, in Quebec, and anywhere and everywhere she traveled. When there wasn't enough snow for skiis, you might find her on a hike. Or on a bike. Or a paddleboard.

Juliet Moringiello offers inspiration to do impactful work, to help others, and to spend time on the the things you love. Deepest condolences to her family.

Predatory Financial Inclusion and the NCUA Ostrich

Adam Levitin — 2025-03-04T19:03:41-06:00

Shame on the National Credit Union Administration (NCUA). The NCUA announced that it would stop publishing data on overdraft and NSF fee income for individual credit unions. It did so in the name of…financial inclusion! 🤯 What really makes my head spin here is that NCUA still has a Democratic majority on its board. wtaf.

The concern apparently animating the NCUA’s decision to cease publishing institution-level data and only put out aggregate figures is that CUs with high overdraft fee income will be tagged as predatory institutions and suffer reputational consequences, discouraging them from offering for-fee overdraft services, which according to the NCUA Chair “can be the best option in a bad situation” … or which can also result in a $40 latte. To claim that “the previous data collection policy incentivized credit unions to avoid serving the needs of low-income and underserved communities” is sheer nonsense. Instead, it is just obfuscating the extent to which some credit unions are taking advantage of their members. What's worse, NCUA's move presages what might be a broader "going dark" move in bank regulation, in which the publicly available call report data will contain less and less granular information, masking the real financial condition of institutions and allowing regulators to sweep problems under the rug.

Several years ago, Aaron Klein at Brookings did a great study looking at how OD/NSF fees were a key revenue component for a small number of small banks. Klein observed that "It is disturbing that regulators tolerate banks that are mostly or entirely dependent on overdraft fees for profitability."The NCUA announcement spurred me to do the same for credit unions. The results are more troubling.

Prior to March 2024, federally insured credit unions (FICUs--that is both federal credit unions and insured state credit unions) did not break out overdraft and NSF fees as part of their call reports. Starting on March 31, 2024, FICUs with over $1 billion in net assets were required to report overdraft and NSF fees on their call reports, bringing credit union call reports in line with what has been required for banks since 2015. That means that just 451 of 4551 federally insured credit unions (FICUs) that were reporting last quarter.

Credit Unions Charged an Enormous Amount of Overdraft Fees

[This paragraph has been updated to reflect income statement on quarterly call reports being on YTD basis.] Based on that call report data, 23 FICUs did not charge overdraft fees, while 41 did not charge NSF fees, while 9 charged neither. The 442 reporting FICUs that did charge either OD or NSF fees charged a total of $3.9 in OD/NSF fees in 2024, which breaks down into $2.6 billion of overdraft and $1.2 billion in NSF fees. Those numbers are surprisingly high relative to bank OD fees given how much smaller CU market share is relative to banks: the CFPB estimated that marketwide overdraft fees were $9.1 billion in 2022.

There Are Many Credit Unions That Would Be Unprofitable Without Overdraft Fees

Putting aside the high aggregate figures for FICU OD/NSF fees, the individual institution-level figures are also troubling. Of the 451 FICUs reporting, 32 had negative net income, so let's just put them aside. That means we have 410 revenue-positive FICUs that charge either OD or NSF fees. What's troubling is not that they are charging fees—that's a reasonable enough thing to do. Instead, it is how deeply reliant many of these FICUs are on OD/NSF fees to stay solvent.

A good metric for the importance of overdraft/NSF fee income to a FICU is that fee revenue as a percentage of net income. That's the metric Aaron Klein uses for banks, but we should recognize that credit union revenue might look a bit different from banks, so it would not be surprising to see overdraft fees making up a higher percentage of net income for credit unions than for banks. Klein reports OD/NSF as 9% of revenue on average for regional banks. For FICUs, the average is much higher: 34%. But there's huge variation: Boeing Employees gets just 4% of its revenue, compared with, say, 42% for Navy FCU and 171% for Five Star Credit Union in Dothan, Alabama.

The graph below shows the distribution of CU reliance on overdraft/NSF fees by this metric of fees as a percentage of net income. It shows that 148 credit unions relied on overdraft and NSF fee income to the extent that it made up over half their net income during Q4 2024, and that 61 CUs that would have been operating in the red but for overdraft/NSF fees. That should be a bright red flag that something is amiss at those CUs. Either they have unusual expenses or a lot of non-performing loans...or they have a fee-dependent business model that is likely to be predatory on their own members.

If NCUA really wants to encourage financial inclusion, for-fee overdraft is a terrible way to do so. (And remember that NSF has nothing to do with financial inclusion because its a fee for not paying the item.) The only provider of overdraft on an account is the credit union. That’s a market structure that is vulnerable to supracompetitive pricing. That’s why overdraft fees generally bear no relation to the amount or length of the overdraft or likelihood of repayment.

It’s hard to believe that NCUA really thinks for-fee overdraft is the way to accomplish financial inclusion. Instead, it just looks as if NCUA is trying to give some political cover to those credit unions that are unduly reliant on overdraft/NSF. (And ironically, by doing so, the NCUA has probably triggered a Streisand effect—nobody was looking at credit union OD/NSF fees before this announcement.) NCUA should know better than to pretend that predatory financial inclusion is real financial inclusion.

The GENIUS Act: Insolvency Risk with Stablecoins

Adam Levitin — 2025-03-02T23:04:52-06:00

In 2021 I posted a draft of an article about custodial risk in cryptocurrency that turned out to be quite prescient. At the time I wrote it, I got a lot of pushback from people in the crypto world that I was scaremongering and that crypto custodians were rock solid. I tried to explain to crypto investors that whatever they knew about crypto, they didn't know bupkes about bankruptcy, and that if and when things went south, the custodial situation was going to be a hot, hot mess.

And lo and behold, when Voyager and Celsius and BlockFi and FTX came along, a lot of crypto investors got slapped in the face by the workings of Chapter 11. Crypto investors found out that: (1) they were generally just unsecured creditors; (2) their claims were for dollars based on the value of the crypto holdings at the moment of the bankruptcy filing; and (3) it takes a long, long, long time to get paid in a bankruptcy case and you don’t get interest if you’re unsecured. Ouch.

Now we’re again at another peak crypto moment, and it appears that the industry has learned …. nothing (or perhaps everything, if you're cynical), as it is pushing federal stablecoin legislation, the so-called GENIUS Act, that is going to lull a lot of investors into thinking that stablecoins are safe assets, namely that a stablecoin is always redeemable for US dollars at a 1:1 ratio. It's not. A stablecoin will maintain a 1:1 peg ... until it doesn't, and once that happens, stablecoin investors are going to be taking serious haircut in the ensuing bankruptcy. None of the insolvency provisions in the GENIUS Act change that. There is no way to eliminate credit risk for free, but the GENIUS Act sets up expectations: I fear that this legislation is going to make unsophisticated investors wrongly believe that credit risk on stablecoins is not an issue. If that happens, the GENIUS Act is setting the stage for a federal bailout of disappointed cryptocurrency investors when a stablecoin issuer goes belly-up and investors discover that they don't have the protections they thought they had.

In other words, the GENIUS Act is creating an implicit guaranty of stablecoins, which means it is creating an implicit subsidy of the whole DeFi world that operates outside the reach of anti-money laundering regulations. What genius thought this up?

What Is a Stablecoin and What Is Its Use?

A stablecoin is a cryptocurrency token that is pegged to a fiat currency value (or sometimes to a commodity like gold). For example, Circle's USDC token is pegged 1:1 to the US dollar, such that 1 USDC should be redeemable for $1. The whole idea of a stablecoin is that it is a stable store of value. In other words, a stablecoin is just a token that can be redeemed for a fixed amount of cash.

Although the crypto industry likes to highlight the use of stablecoins for real world applications such as remittances and peer-2-peer payments, the real world usage is scant. As Alexis Goldstein showed in Congressional testimony several years back, the cost of sending remittances in stablecoin when all fees are included is often much, much higher than with good old Western Union; the comparisons the industry posts are never apples-to-apples of all-in costs. (And if you doubt this, ask yourself exactly how useful is it for a recipient in say, Venezuela, to receive a remittance in a form of a stablecoin? Will they be able to pay rent or buy groceries with it? There will have to be conversion into fiat, which involves fees and inconvenience.)

Instead, the primary use of stablecoins is for DeFi market making and lending protocols. This is why stablecoins account for the majority of crypto transactions, even though they are a rather limited percentage of total crypto market capitalization.

Market making. Crypto can trade either through an "exchange" like Coinbase, that's really just a brokerage that operates a traditional order book like Charles Schwab, or through a DeFi protocol like UniSwap, Curve, or Balancer, that acts as an automated market maker (AMM). AMM's are apps that manage liquidity pools: liquidity providers put up a pool of stablecoins and Bitcoins/altcoins, which are locked in via an ERC-20 smart contract, and liquidity takers buy and sell the Bitcoins/altcoins from the pool in exchange for stablecoins.

AMMs use stablecoins as their liquidity medium; everything trades in and out for stablecoins. The reason: the AMM doesn't have a bank account because it's "owned" by a DAO, which does not have legal personhood and cannot satisfy bank KYC requirements for itself. This means that almost the whole volume of DeFi trading involves trades of stablecoins for other crypto, hence the high transaction volume in stablecoins.

(Ironically, if you wanted to start providing liquidity to an AMM liquidity pool, you'd first need to acquire some stablecoins, and you'd need to go buy them from a traditional exchange like Coinbase or Gemini in exchange for fiat, so there's no avoiding the need to get a fiat on-ramp somewhere. In other words, there's no DeFi without CentFi.)

Crypto lending. DeFi lending is also built around stablecoins. DeFi lending protocols use stablecoins as collateral. If you borrow from a DeFi protocol, your repayment is guarantied not by the threat of litigation in the courts or foreclosure on real world assets, but by the automatic liquidation of the stablecoin collateral you posted under an ERC-20 smart contract. DeFi lenders are relying on stablecoins to retain their stable value, otherwise borrowers might opportunistically breach if collateral values fall below the cost of repayment.

What Distinguishes a Stablecoin from a Digital Poker Chip?

Beyond the particularized uses, what makes a stablecoin different from a poker chip in Vegas? Only that ownership is determined not by physical possession, but by control of the private key that is used to authorize transactions in the stablecoin on a blockchain, including redemptions. So it’s basically a digital poker chip.

But is a actual poker chip actually interchangeable with cash at a fixed peg? Sort of, but it's geographically contingent. You can of course redeem a poker chip from a casino's own cash cage, and some Vegas establishments besides casinos will accept payment in poker chips because they can readily redeem them at the casino’s cash cage. But most casinos won’t redeem more than a very limited amount of other casinos’ chips (unless they have common ownership); each casino family is a separate currency zone.

Now try paying someone with a Vegas chip in Chicago or DC. If the chip is even accepted for payment it will be accepted at a steep discount. So much for the fixed peg. The discount exists because of five related problems:

Counterfeiting. The payee will be concerned about whether it is even a legitimate poker chip or a counterfeit. How does a DC denizen know whether something is a legitimate Caesars' chip?
Transaction costs. The payee cannot readily redeem the chip for cash—which is needed for paying certain transactions, such as tax bills and judgments—without traveling to Vegas, which is a huge transaction cost.
Custodial risk. The chip is easy to lose and vulnerable to theft in a way a bank transfer is not.
Issuer insolvency risk. There’s a chance that the casino will go bankrupt and won’t honor redemptions of the chips, so there’s credit risk of the chip issuer.
Uncertainty of value; network effect. The payee will be worried about whether other, downstream payees will accept the chip, and with what sort of discount, which in turn depends on the extent of the first four problems. In short, we have a network effect problem, which cannot be solved until there is enough critical volume of persons willing to accept the chip at par. It’s not enough if they will accept at a discount because that discount will have to be negotiated in every transaction, rendering the chip of uncertain value.(The reason some Vegas merchants will take poker chips as payment is because they have a customer base that might have greater willingness to spend: I might be willing to spend a whole $100 chip on a $90 item rather than shlep back to the casino cash cage to redeem it and get cash so I can pay $90.)

Now consider how that compares with a stablecoin, which fixes the counterfeiting problem and changes the nature of the transaction cost issue, but does not fix the custodial risk or issuer insolvency risk problem, and that in turn results in an uncertainty in value, at least outside of the crypto-ecosystem, such that there is little real world demand for stablecoins.

Counterfeiting. It is easy enough to verify if it is a legitimate stablecoin; counterfeiting isn’t a concern with a stablecoin.
Transaction costs. The stablecoin might be readily redeemable (or not depending on its terms) from any geographic location. But there might be transaction fees on the redemption. The mining necessary to validate the block ain’t free, particularly if you want it done fast, so transaction costs still remain that exceed those faced by a payor on a ACH, debit card, or check transaction. (And please don't start telling me about merchant fees--I've been writing about those for 20 years now, so I know that payments are not free, but they are paid by the payee, not the payor, in the first instance.)
Custodial risk. A stablecoin does not fix the custodial risk problem. The stablecoin still needs to be stored somewhere, as the wallet where it is stored could be hacked (Bybit) or the custodian could embezzle the funds (FTX, Celsius) or the custodian could simple go bankrupt (Celsius, Voyager, BlockFi). The details of the custodial risk change by going digital, but they still exist.
Issuer insolvency risk. A stablecoin does not address the credit risk of the issuer. A stablecoin issuer might not be able to honor its redemption requests because its own investments go bad. USDC, for example, dropped from a $1 peg to 87¢ in the wake of Silicon Valley Bank.
Uncertainty of value; network effect. Here's where things get weird....Because of factors two through four, the willingness of other downstream payees to accept the stablecoin should still be uncertain; the network effect problem should remain. And for real world users, it absolutely does. Few parties will accept payment in stablecoin for real world transactions, much less at par. The only folks who do for real world transactions are those who are willing to take stablecoins at par do so because they are willing to subsidize stablecoin payments to satisfy their ideological priors about crypto. (This could change--one could imagine Amazon or WalMart issuing their own stablecoins to save on payment costs because they have the scale to make it worthwhile for consumers to bother having their coins. )

In the crypto ecosystem, however, the network effect problem has been overcome--there are enough folks who are willing to take payment in stablecoins at par that the uncertainty of value issue has disappeared. In part this is because if you're doing DeFi transactions, payment in stablecoins at par is cheaper/easier/faster than the alternative of conversion in and out of fiat. But one would still expect discounting to reflect the risk.

So what gives then? Perhaps investors are subsidizing the risk because of their ideological commitment to crypto. But perhaps investors do not understand or simply cannot measure/price credit risk on stablecoins. Stablecoins have two distinct types of credit risk—custodial and issuer—and both are incredibly hard to measure. Investors have no real way of verifying the security of custodial arrangements or the solvency of stablecoin issuers, and ByBit, Terraform, and FTX should underscore the exposure of the market to sudden catastrophic events. There's no way to price that risk, so maybe it just gets ignored, especially on the theory that it's rare and couldn't possibly happen to me (some behavioral economic spicing here...). But I think another piece is that many investors simply don't understand the credit risk and just what could happen to them if either a custodian or an issuer runs into trouble. And that brings us to the GENIUS Act, which I fear is going to lull investors into a false sense of security about the credit risk on stablecoins.

The GENIUS Act and Insolvency Risk with Stablecoins

The GENIUS Act would create a federal regulatory framework for “payment stablecoins,” that is stablecoins used for payment or settlement. The entire GENIUS Act is built around addressing credit risk in stablecoins. Most of the GENIUS Act is devoted to creating an upfront regulatory system for stablecoin issuers. I won't go into the details, but the basic idea is that by having a standardized regulatory system, users of stablecoins can have confidence that the coins are in fact backed by the reserves claimed. (Basically this is just taking a move out of the 1863 National Bank Act, in which national banks were authorized to issue bank notes, but only in accordance with their holdings of Treasury debt, and the Office of Comptroller of the Currency was created to make sure they were complying.) So a lot of the GENIUS Act is trying to address credit risk ex ante and assure investors that bad things won't happen.

But two provisions of the GENIUS Act deal with what happens if things do go wrong. There are two insolvency risks that arise with stablecoins. First, there is custodial risk, which is a risk that exists for all crypto. And second, there is issuer insolvency risk, which is unique to stablecoins.

Custodian Insolvency Risk

The GENIUS Act attempts to deal with custodial risk by declaring the stablecoins to be property of the investor and requires it to be segregated (but it may be commingled in an omnibus account held by a bank or trust company). What does this property status mean if the custodian ends up in bankruptcy? First, no one should assume that a bankrupt custodian has in fact been complying with its segregation requirements. If they haven't, the there's going to be a hot mess.

Second, even if the coins are segregated, they might just not be there. The custodian could have been hacked (ByBit) or the coins could have been embezzled (FTX...). If the coins aren't there, the investors just have an unsecured claim for their market value as of the date of the bankruptcy filing. No one is actually guarantying that there will be coins for the investors to get back.

Third, even if the stablecoins have been segregated and are still around, it does not mean that the investors have immediate and unfettered access to their stablecoins. An investor cannot unilaterally transfer its coins out of a custodian's possession without the custodian's consent (and even more so if the coins are commingled). The investor doesn't have the full set of keys to the custodian's wallet.

The bankrupt custodian has little reason to facilitate transfers out of its custody; it's already lost every customer who wants to take its coins and go elsewhere. Instead, the custodian’s bankruptcy estate will probably freeze transactions, at least temporarily, so it can figure out whether (1) it even has enough of the stablecoins to meet all transfer requests, (2) whether the exceptions to the property rule apply, and (3) whether it has any claims against the investors that it might want to try to exercise through a setoff. Accordingly, the bankrupt custodian will likely take the position that the automatic stay applies to all attempts to transfer the coins. And if the custodian is in a free-fall hot mess, like FTX, where there’s no telling that they will actually even have your coins or have operational functionality even if they wanted to release your coins.

So you’re likely jammed up by the automatic stay, even if it is your property (and smart contracts are not necessarily a work around--they might well be stay violations and subject to avoidance as post-petition transfers). You can move to lift the stay, but again, that’s not automatic. There will have to be a hearing and the court might not rule immediately. In the best scenario, you’re probably not gaining access to your stablecoins for a good month and possibly much longer. Meanwhile, you are exposed to market swings. If the coins drop in value in the interim, well, that’s on you bro. So just making the coins your property doesn’t actually eliminate the custodial risk problem. It only lessens it. Yes, it is better to have the coins as your property than to be an unsecured creditor of the custodian, but it doesn’t mean that you are unimpaired.

Put another way, the GENIUS Act doesn't entirely resolve the problem of coin ownership that bedeviled the 2022 round of cryptocurrency exchange bankruptcies, but even if it did, that doesn't actually get the coins back in the hands of the investors immediately.

Contrast this with the fate of deposits at a failed bank. The FDIC probably does a whole bank resolution--the bank is sold as a going concern to a buyer that assumes all of the deposit obligations. The depositor has nearly uninterrupted access to its funds, whereas the stablecoin investor has to wait and possibly fight to get access to its coins and faces market value risk in the meanwhile.

Issuer Insolvency Risk

Custodial risk is a problem that exists for all crypto, but stablecoins have an additional type of credit risk, that of the issuer. The attraction of a stablecoin is that it is (in theory) redeemable at a fixed peg. That requires the issuer to have sufficient liquid assets to be able to meet all redemption requests. In theory, a stablecoin issuer should just be putting its reserves into very, very safe assets, like insured bank deposits, Treasuries, commercial paper, etc. But we know from recent history that sometimes that is not the case. USDC was trading at 87¢ on the dollar when investors realized that its issuer, Circle, had billions in reserve in uninsured deposits at the failed Silicon Valley Bank. Paxos's BUSD has also found itself massively short on reserve assets in the past. Stablecoin issuers make money off their reserve earnings, so they are always incentivized to try to chase higher yield if they can get away with it.

Does the Investor Even Have a Claim?

So what happens if a stablecoin issuer ends up insolvent and files for Chapter 11 bankruptcy. First, it's not clear that all stablecoin holders would even have a claim in the bankruptcy. Some stablecoins given redemption rights only to a limited subset of institutions, such that most holders do not have redemption rights. Without redemption rights, a stablecoin holder probably doesn't have a claim. Instead, it would have to sell its claim to one of those institutions with redemption rights, which could then have a claim. Those institutions are going to extract a serious discount, if they'll buy at all. (And if the stablecoin is locked up in a smart contract, there are further questions about who would have the bankruptcy claim...)

Super-Duper-Duper Priority Still Doesn't Make You Top Dog

If the stablecoin holder has a claim, the GENIUS Act provides that it has super-duper-duper priority per a new section 507(e) of the Bankruptcy Code. The Bankruptcy Code's priority system is somewhat opaque and needs to be pieced together from disparate Code provisions. Here's the short version. Sitting at the top of the tree are claims not subject to the automatic stay, such as those of repo and swap counterparties. They are entitled to grab whatever margin has been posted to the transactions. After then come secured claims (section 725), but only from their collateral. Then section 726 takes over. It proves that section 507 claims have priority over general unsecured claims. Section 507 provides that section 507(b) claims having superpriority over section 507(a) claims, such as the administrative expenses of the bankruptcy or certain tax claims. But even 507(b) claims get trumped by super-duper priority claims of DIP financiers under section 364(c)(1). So what does new section 507(e) do? It would say that stablecoin claimants have priority over the administrative expenses of the bankruptcy and employee claims and tax claims, but not over DIP financing claims, secured claims, or swaps and repos.

Bankrupt Stablecoin Issuers Are Likely Insolvent

As an initial matter, that's just unworkable. The administrative claims--the lawyers and other bankruptcy professionals—-need to come first or they won't do the work: you gotta pay the gravedigger. But once you do, notice the problem: there might not be anything left by the time the stablecoin claimants come up for payment. Remember that a stablecoin issuer isn't likely to file for bankruptcy unless its peg has broken the buck. That's doubly bad news for the investors. First, if the stablecoin has broken its peg, then it probably does not have enough assets to pay all of its creditors. So the order of priority really matters. If the issuer's reserves include lots of swap and repos positions, the issuer's assets could be cleaned out by counterparties. At that point the DIP financier and the professionals will gobble up what's left. Bankruptcies aren't cheap: FTX has had nearly $1 billion in professionals fees. So yes, priority is nice, but stablecoins investors aren't getting enough priority to really protect them and giving them more (or even what they currently have in the GENIUS Act) starts to make bankruptcy unworkable. (And just so it's clear, if there's no bankruptcy process, every stablecoin investor is in a race to the courthouse with all the other investors to try to get a judgment and levy on whatever assets remain of the issuer. Good luck with that.)

Stablecoin Investors' Claims Might Be Dollarized at Market Values at the Time of the Bankruptcy

Second, their claims are not for a stablecoin, but instead get dollarized as of the time of the bankruptcy petition. There's an argument that they get dollarized at the market price of the stablecoin, rather than at the redemption value. If so, then they have already realized the market value loss at the time of the bankruptcy filing and will not get it back.

Putting Some Numbers on It

Let's suppose, however, that there are enough reserves around to pay all of the prioritized stablecoin investor claims. Even if the investors get their claims paid in full, they don't get them paid until the effective date of a bankruptcy plan, which might be years in the future, and they don't get any interest on their claims. Let's put some numbers on it. Imagine a stablecoin issuer that fails after breaking the buck and that its plan does not go effective for 2 years. What happens to an investor who has a $1 million stablecoin claim? He gets paid $1 million in 2 years. If we used a 7.5% discount rate, continuously compounded, then the present value of that claim is less than $800,000. The delay alone will eat up a fifth of the value of the claim.

Now let's make it even worse. Let's suppose that the stablecoin is trading at $0.87 and the court says that the investor's claim is for the value of the coin, not the par redemption amount. Under section 502, the investor’s claim is locked in at 87 cents on the dollar. So the $1 million investment is now a $870,000 claim. If it is paid in 2 years, then the present value, assuming a 7.5% continuously compounded discount rate, is around $750,000, and if it is paid in 3 years, the present value would be down to under $700,000.

Now let's make it even worse and say that swap and repo claims and professional expenses have eaten away half of the reserves before the plan goes effective. At that point, the stablecoin investor is getting a nominal 43.5¢ on the dollar in 3 years, so the present value under the prior assumptions would be around $350,000.

You might dicker with my discount rate assumption or with the question of whether the claim will be allowed only at the market value rather than face or how long the bankruptcy will take or even if the reserves will be insufficient. Maybe the loss won't be as bad as in my scenario. But there is no avoiding that (1) there will be a present value loss and (2) whatever the payment is, it will be delayed. It's either a bit bad, or really, really bad, but there's no scenario in which the investor doesn't take a loss.

Bankruptcy Ends up Very Badly for Stablecoin Investors, Any Which Way

The GENIUS Act tries to mitigate credit risk on stablecoins by declaring their property of the investor vis-a-vis custodians, and prioritizing the investors' claims vis-a-vis creditors of the issuer. But neither is really a fix, and the truth is that absent a government guaranty, there's no way around this problem. No matter how much stablecoins are prioritized in bankruptcy, bankruptcy is a slow process, and time is money. And there are limits to how far stablecoins can be prioritized in bankruptcy without rendering the bankruptcy system unworkable. (Making stablecoins the property of the investors is no help in an issuer bankruptcy because all the investor gets is a digital token that is worthless without the redemption right, and that's just a bankruptcy claim; this is different than in the custodian bankruptcy scenario.) The only real way to ensure 100% timely repayment is a government backstop, but that's not something the industry wants (because it goes with regulation).

At the end of the day, even with a 1:1 peg, a stablecoin is not the equivalent of a dollar in a bank deposit account. If the bank fails, the FDIC steps in and ensures uninterrupted access to the deposit. If the stablecoin custodian or issuer gets in trouble, investors are going to be impaired; the only question is by how much.

So this should raise the question of how a stablecoin pegged to the dollar at 1:1 can clear at par in the market. Perhaps there is some sort of discounting that cannot be observed, but short of that, the only answers I can provide is that investors either do not understand the credit risk on stablecoins, hyperbolically discount it to zero because they cannot readily measure it, or are just willing to subsidize stablecoins because of ideological priors.

Any which way, there's some sort of unpriced risk here, and the GENIUS Act is likely to lull investors into thinking that stablecoins are equivalent to deposit accounts in terms of credit risk, and they ain't. That's not just bad for stablecoin investors. It's also bad for taxpayers who want nothing to do with crypto.

The GENIUS Act Creates an Implicit Government Guaranty of Stablecoins, Meaning a Subsidy for the DeFi Market

By creating a regulatory regime for stablecoins, the federal government will "own" any problem that arises in the market. And here's the pernicious operation of its ineffective insolvency provisions: they promise to have created safety for stablecoin investors at no cost, but because it cannot deliver on that promise, it sets up a situation where the government has to deliver safety otherwise, on its own dime. In other words, it sets up a bailout. When there is another crypto crash and stablecoin owners realize that their going to incur major losses, they will come crying for a bailout, noting how critical stablecoins are for the whole DeFi world and how they thought their investments were safe because of the GENIUS Act.

What do you think will happen then? After Silicon Valley Bank can one really have confidence that they won't get a bailout? Will banks be allowed to support their insolvent stablecoin issuer subsidiaries? Will the US Strategic Cryptocurrency Reserve (if created) be used to bail them out by buying their stablecoins at 100¢ on the dollar?

The GENIUS Act creates an implicit government guaranty of stablecoins. That means that taxpayers will be implicitly subsidizing the DeFi transactions that rely on stablecoins and that generally sit outside of the reach of anti-money laundering enforcement: taxpayers are going to be implicitly subsidizing money laundering. Is that really a desirable policy outcome? I fear the consequences of the GENIUS Act haven't been fully thought through.

Remembering Brady Williamson

Melissa Jacoby — 2025-02-20T10:29:43-06:00

Brady Williamson, a remarkable person, has died at the age of 79. Brady's engagement with the field of bankruptcy law is diverse and of long standing, from arguing before the United States Supreme Court to chairing the National Bankruptcy Review Commission, where I first met and worked for him as a staff attorney. More recently, Brady had a range of professional roles in big bankruptcies, such as those involving the Commonwealth of Puerto Rico, Purdue Pharma, and in cases that implicated air and water quality.

Brady also had tremendous expertise in foundational constitutional law matters and a commitment to democracy, the rule of law, and fair elections at home and around the world. He recently worked with students on such matters from coast to coast, after teaching with some regularity over the years at the University of Wisconsin-Madison. The challenges and joys of university teaching was a topic of what turned out to be our last telephone conversation.

Brady's impact during his lifetime was broad and deep; it will be enduring. Deepest condolences to his loved ones.

L'État, c'est moi

Adam Levitin — 2025-02-18T22:17:09-06:00

L'État, c'est moi is what came into my mind when I read the Executive Order on Ensuring Accountability for All Agencies issued by the President today. The executive order is not only the most complete and direct enshrinement of the unitary executive theory we've yet seen from the administration, but it also marks the end of independent regulatory agencies. And coming from a President with a distinct taste for Louis XIV gilt, well, you can understand why my mind wandered to the lord of Versailles.

Historically, going back to the Reagan administration, EO 12866 required all executive agencies to submit major regulatory actions like rule makings to the Office of Management and Budget for review. But EO 12866 and its successors always exempted independent regulatory agencies like the CFTC, FTC, FDIC, Federal Reserve Board, NCUA, OCC, and SEC. The thinking (I believe) was that if the President did not have unfettered removal power over the heads of those agencies, he also did not have the power to control what rules they issued: the greater includes the lesser.

Well, no longer. According to this ukase, all executive agencies (including the Federal Reserve Board when acting as bank regulator) are under the thumb of OMB. It's all done in the name of accountability, and who could be against accountability, right? Of course, accountability takes many forms, and Congress, in its wisdom did not create all agencies the same nor did it place all of them under the direct control of the President. And the Presidential control claimed here is not just approval over proposed rule makings. It is also about budgetary control. The EO provides that the OMB Director shall:

consult with independent regulatory agency chairmen and adjust such agencies’ apportionments by activity, function, project, or object, as necessary and appropriate, to advance the President’s policies and priorities. Such adjustments to apportionments may prohibit independent regulatory agencies from expending appropriations on particular activities, functions, projects, or objects, so long as such restrictions are consistent with law.

In other words, the White House will be telling independent agencies how to spend their money. If the White House thinks that the FTC is spending too much on antitrust enforcement, it can tell it to stop doing so and shift the money elsewhere (subject to the Anti-Impoundment Act, which will itself surely be in for a legal challenge). (I think the bank regulators are actually safe here, as their budgets are not subject to appropriations...)

And then there's this. One of the EO's more incredible provisions is that:

The President and the Attorney General, subject to the President’s supervision and control, shall provide authoritative interpretations of law for the executive branch. The President and the Attorney General’s opinions on questions of law are controlling on all employees in the conduct of their official duties. No employee of the executive branch acting in their official capacity may advance an interpretation of the law as the position of the United States that contravenes the President or the Attorney General’s opinion on a matter of law, including but not limited to the issuance of regulations, guidance, and positions advanced in litigation, unless authorized to do so by the President or in writing by the Attorney General.

Does this apply to administrative law judges, who are executive branch employees? Are they allowed to have independent interpretations of law? What about the heads of federal regulatory agencies when acting in an adjudicative function? (E.g., appeals from the CFPB's ALJ go to the CFPB Director.) And what does this means for attorneys at federal regulatory agencies? Does "opinions" here mean only written, published opinions, or just whatever the President's opinion happens to be? As seems to be the modus operandi of this administration, this EO was released before it was fully-baked. If an ad law amateur like me is spotting possible issues....

Update 12/19: How could I have forgotten this one: the EO exempts the Federal Reserve Board, but only when it is not acting as a bank supervisor (meaning that its payment systems operations and its participation in the Federal Open Markets Committee is exempted). That's a very nice and neat conceptual siloing of the FRB's activities, but isn't so neat in real life: bank regulation is part of monetary policy. So while the White House won't be able to direct the sale and purchase of Treasuries and other securities by the Fed, it will have substantial ability to direct bank regulatory policy, including putting pressure on (dare I say "threatening"?) banks to open the credit spigot to heat up the economy.

There's a good reason that bank regulatory policy has long been hived off in independent regulatory agencies: the temptation of pushing easy credit would be difficult for any administration to avoid, but that's a recipe for greater volatility in the economy. Not only is it unclear that a boom/bust cycle is better for the economy overall in the long term, but the busts are particularly hard on those who cannot readily diversify their economic exposure, like workers who get laid off.

Debanked by the Market

Adam Levitin — 2025-02-13T12:39:10-06:00

The crypto industry has been spreading a tale of federal bank regulators persecuting crypto and forcing banks to "debank" crypto companies. Like the grossly mischaracterized Operation Choke Point, the crypto debanking narrative is utter and self-serving bs. At best, the actual evidence shows the FDIC expressing very normal and reasonable risk management concerns—that is, the FDIC was just doing its job. There is zero evidence that the FDIC ever threatened or directed banks not to do business with crypto companies.

The simple truth is that crypto companies were debanked by the market, not regulators. Banking crypto poses a unique, correlated credit risk that should rightly concern any bank's risk committee. Crypto companies present a risk of correlated chargebacks that makes them all potential Fyre Festivals, so banks with prudent risk management practices determined that it was a value negative proposition to provide banking services to crypto companies. That's the invisible hand of the market at work, not the invisible hand of the Deep State.

Let's start with an empirical point: everyone is ignorant here. No one knows how many crypto companies—or consumers—have been "debanked" and no one who has been debanked actually knows why because banks do not generally tell customers why they closed an account. So this whole debanking issue stands on a pedestal of (often self-serving) conjecture.

Now for the main point: providing deposit services for crypto has a lot of unpriceable credit risk, so many well-managed banks reasonably avoid crypto firm customers on their own. No regulatory intervention is needed.

Banks provide three basic services: payments, deposits, and lending, but ultimately all three involve credit risk. Every crypto firm needs a payment processor--it needs some way to accept payments unless it's taking cash and checks. Payment processors (a/k/a "merchant acquirers") require that their customers maintain their deposit accounts with them. This is in part a risk-management tool. The result is that payment and deposit services are bundled. Now here's what's often not well understood: payment processing entails credit risk.

If a consumer claims that a transaction was unauthorized or that they did not receive the goods and services ordered, they can initiate a chargeback with their bank. When that happens, the consumer's bank has a right to claw the funds back from the merchant's bank. That leaves the merchant's bank holding the bag unless it can recover the funds from the merchant. If the merchant is bankrupt or absconds, the merchant's bank—the payment processor—is stuck with the loss.

Now most of the time this is not a big deal. Every merchant deals with a problem of onesies-twosies chargebacks. As long as chargeback levels are predictable, payment processors can price for them. Consumers never see this pricing, but merchants pay the acquirer bank a fee for every payment they receive. On credit and debit cards, it is the "swipe fee" (formally the "merchant discount fee") and a part of it gets remitted back to the issuer bank as the "interchange fee". Riskier merchants pay higher swipe fees. So a low risk operation (let's say Wal-Mart) is probably paying a merchant discount fee that is probably under 2%, while a high-risk merchant (say a gambling website) might be paying more like 10%-15% of every transaction as a processing fee. Chargeback risk is manageable when it is predictable; banks can price for predictable risk.

Certain industries—e.g., adult websites, guns-and-ammo, gaming, bail bonds, and lawyers (!)—tend to have higher chargeback rates. These industries are often served by a subset of banks that specialize in high-risk payment processing. Crypto companies also fall into that category of having high chargeback rates, but the chargeback risk posed by crypto is fundamentally different. Chargeback risk is manageable when it is predictable, but that requires that it be uncorrelated. Lots of happily married men might claim they did not authorize that purchase OnlyFans subscription, but they aren't all making that claim suddenly and at the same time. The chargeback level if high, but basically static and predictable.

Crypto doesn't work like that. Although there is probably always a relatively high baseline level of chargebacks for crypto, the chargebacks are also likely to be highly correlated whenever there is a market crash or allegations of fraud about a particular coin. If the market goes up, everyone is happy with their transactions, but when it falls, customers try to get out of their losses by claiming that the purchase was never authorized in the first place. Now Visa has a 120 day time limit for issuers to chargeback transactions to acquirers, so the acquirer has to worry about market movements in a completely unpredictable market for the next four months. If say, Bitcoin crashes, chargebacks are going to soar at the very time when the risk of the crypto company customer going bankruptcy rises. So the scenario that the payment processor is facing is that it will be hit with a tidal wave of chargebacks and that it will not be able to recover them from the crypto company, but will instead just have an unsecured claim in the crypto company's bankruptcy.

That's the kind of risk that a bank's risk committee--and federal banking regulators—should be worried about. It is a materially different risk that generally exist for other types of high-risk merchants. The only similar situation is with troubled airlines and concert promoters. If the airline stops flying or the concert tour doesn't happen (because, say, it was for Michael Jackson, who has died), then there's going to be a tsunami of chargebacks. Not surprisingly, if an airline's finances start to decline, the processor will require a holdback of funds to cover potential chargebacks (and this can result in a self-fulfilling prophecy as the airline is deprived of liquidity). And for concert promoters, there might be a key person insurance policy requirement to protect the bank. But there isn't an obvious risk management move when dealing with crypto companies, particularly when banks had not had experience with it through multiple business cycles.

Once you understand that banking crypto exposes banks to an unpriceable type of credit risk, it becomes clear why crypto ventures were "debanked". Banks reasonably recognized that the credit risk—not the reputational concerns—posed by providing services to crypto ventures outweighed the potential revenue. Yes, there might have been short-term gain from banking crypto companies (Silvergate), but it would be at the expense of existential risk (Silvergate again...). Unless treated as a loss-leader for other income streams, banking crypto is a value-negative proposition, so banks with prudent long-term risk management outlooks generally got out of it. That's market-driven debanking and cannot be blamed on the government. Bank risk committees don't need the FDIC to understand the risks of providing payment processing (much less actual lending) to crypto companies.

The implication here is that no amount of crypto-friendly bank regulation is going to change the fact that prudent risk management committees will eschew crypto companies. Instead, it will be the poorly managed operations—the Silvergates of the world—that chase the quick buck, and which will ultimately run into trouble because of it. (Indeed, the very fact that banks like Silvergate served the crypto industry indicates that regulators weren't pressing too hard--do we really think that Silvergate would have told the FDIC to take a hike?)

Coda. The other part of the "debanking" story—the one raised by some Democrats as well as Republicans—is that of closures of consumer accounts. It's a similar story: consumers who repeatedly overdraw their accounts pose credit risk to banks. Yes, the bank can hit them with overdraft fees, but that doesn't do any good if the balance stays negative, and there are administrative costs of handling those accounts otherwise. But even if an account doesn't go negative, it's still a money loser for the bank unless (1) there balance is high enough to general sufficient net interest margin to cover costs, which is probably about a $5000 balance or so, (2) the account pays a lot of fees, or (3) the account is a loss-leader for other cross-sold products. If none of those three conditions are met, then the account relationship is value negative for the bank, and one would expect the account to be closed. The US doesn't have a basic banking requirement like, say, Canada, as a condition of the bank charter privilege, so account closures for consumers are going just be a market-driven process, just as they are for crypto firms. There's a policy argument for having a basic banking requirement, but until and unless we have that as a matter of law, banks should be making market-driven decisions.

Unintended Consequences of Standing Down the CFPB

Adam Levitin — 2025-02-10T19:58:43-06:00

The DOGE approach to "reforming" government agencies is a sledgehammer. That's because it doesn't have the knowledge or patience to use a scalpel. But there are real costs to using a sledgehammer in terms of unintended consequences that are going to blow up on all consumers, be they MAGA supporters, Democrats, or Whigs. Let me highlight just one.

The Dodd-Frank Act, enacted in response to the 2008 financial crisis, prohibits lenders from making mortgage loans without verifying the borrower's ability to repay. The CFPB has a regulatory safeharbor, however, known as the Qualified Mortgage Rule. If a mortgage is a Qualified Mortgage, it is deemed to satisfy the ability-to-repay requirement. To be a Qualified Mortgage, a mortgage loan must have an interest rate that does not exceed the "Average Prime Offer Rate" by more than a specified level. Sounds go so far, right? Basically, if a mortgage isn't priced too much higher than the average mortgage rate, we're going to assume that it's not problematic.

But here's the catch: the "Average Prime Offer Rate" is a number determined by the CFPB. It isn't self-executing. Instead, CFPB personnel need to collect and analyze data and then periodically publish the Average Prime Offer Rate. If CFPB personnel are not permitted to work, the Average Prime Offer Rate will not update. (You can thank the Trump 1.0 CFPB for adopting this methodology instead of a debt-to-income ratio...) In a falling interest rate environment, that won't matter much. But if rates rise, then the Average Prime Offer Rate will be stuck at too low of a level, so more mortgages will fall out of the Qualified Mortgage safe harbor, thereby exposing lenders to legal risk. What could cause rates to rise? Well, tariffs for one thing, particularly if the Fed is concerned about keeping inflation in check. Hmmmm.

So what are lenders likely to do with the APOR being stuck at its current level should rates rise? They can't raise the rates on the mortgage that are above the APOR much higher. So they can either just not make loans or raise the rates on loans that are below the APOR, meaning that all borrowers will bear the costs or they can eat the costs themselves. If they don't make the loans or raise the rates, that will push down home values for existing homeowners and cut off credit for marginal borrowers. In other words, shutting down the CFPB does not reduce regulation. It actually increases it because it results in the regulatory safe harbor being miscalibrated.

I've been blogging a lot these last few days from a position that is generally supportive of letting the CFPB continue its basic operations. But let me underscore that I haven't agreed with all of the CFPB's actions over the past few years. I've had my qualms about several recent rulemakings and have questioned certain legal interpretations, even when I agree with the underlying policy. (It has not always been easy to raise these concerns with folks who work in the progressive policy world.) Suffice it to say that I don't think the agency gets it right 100% of the time. But those are things one fixes in a targeted fashion. Sledgehammer reform just results in the baby getting thrown out with the bathwater. DOGE may not care, but I wonder if the mortgage industry does.

No, The CFPB’s Not Dead. It’s Not Even Close to Dead.

Adam Levitin — 2025-02-10T18:52:44-06:00

A lot of coverage of the Trump-Musk takeover of the CFPB has been treated the matter as if the Trump-Musk blitz has destroyed the agency. It hasn’t. Not even close. The CFPB has been stood down for now, but it is fundamentally intact. It hasn't been "deleted."

It is possible for a smart, determined, and patient administration to seriously unwind large parts of the regulatory state while playing be constitutional rules. DOGE, however, lacks the knowledge, personnel, and time to actually accomplish this. You need a lot of lawyers who know how agencies work—both in terms of substantive law and in terms of federal government employment law. They don’t have that. All they have is a handful of under-25-year old engineers and a few non-specialist attorneys. These folks don’t know how to actually dismantle government agencies. That’s why DOGE has adopted the shock-and-awe approach to government that makes lots of headlines and can foul things up for a while and generally make life unpleasant, but it isn’t actually capable of making any lasting structural changes DOGE cannot kill off the CFPB. That’s because the CFPB requires two things to be effective: its legal authorities and its personnel. Trump and Musk have not dismantled either.

Let’s review:

(1) The CFPB’s Legal Authorities Remain Unaffected. The Trump-Musk takeover has not affected the CFPB’s legal authorities one iota. The Consumer Financial Protection Act and the enumerated consumer laws (TILA, EFTA, FDCPA, FCRA, ECOA, etc.) can only be repealed or amended by act of Congress, and Trump-Musk doesn’t have the votes to change those laws. Likewise, all of the regulations that are promulgated under those statutes remain unaffected. To change them would require going through normal Administrative Procedures Act notice-and-comment rulemaking. That’s slow and subject to judicial challenge. Indeed, to even so much as change an effective date for a pending regulation that is not yet in effect, the Trump-Musk CFPB would have to still go through publication in the Federal Register, which is hard to do when you don’t have the relevant employees working. There are various policy statements and circulars and examination manuals and other sort of non-binding things like that the Trump-Musk can repeal or amend fairly easily without APA notice-and-comment, but again it still requires having the relevant employees actually working.

Simply put, no matter how hard the Trump-Musk administration tries, it does not have the ability to unwind most of the CFPB’s legal authorities. Those authorities will ride through the administration intact and will be able to spring back into action on the first day of the next administration.

(2) The CFPB’s Personnel Are Still in Place. The CFPB’s has a highly skilled civil service workforce. It is all still in place. As far as I know, no CFPB employees have been fired to date. Some job offers were rescinded and new hires in their probationary periods remain vulnerable to dismissal. The political appointees have resigned, but they were always a very, very small percentage of agency staff, and it was expected that they would depart with a change of administration. The Bureau’s other employees have been told not to undertake any work or come into the office, but they are still employed and getting paid. They have not even been placed (formally) on administrative leave. (That’s probably because the Trump-Musk team learned belatedly that they can only place federal employees on administrative leave for a total of 10 days. Whether the current situation is constructively administrative leave, such that 11 days of it would violate the law is likely to become the subject of litigation.) Critically, the “fork in the road” resignation offer that was made to federal employees underscores the inability of the Trump-Musk administration to engage in wholesale firings without cause: you don’t make a severance offer when you can simply can the employee at no cost.

Now I do not envy CFPB employees in the current situation: yes, they are being paid and getting their benefits, but there’s a huge amount of uncertainty hanging over their heads, and these are folks who often took pay cuts to go work for the federal government because they believe in the work—they want to serve their country and do their jobs and are instead being told they have to stand down. And that’s exactly the situation DOGE wants to create—make it unpleasant to work for the federal government. But the irony is that by sticking all of them in this boat simultaneously the Trump-Musk administration has virtually guaranteed that most will not resign because the private employment market is going to be flooded; there aren’t a lot of great alternatives available. How many law firms are likely to be stocking up on consumer finance attorneys right now? So yes, there will be some attrition of personnel over the next four years, but I’d predict that the workforce that is still around come the next administration will be energized in a way that we haven’t seen since the CFPB’s first days. In other words, we might have four years without much (or any) enforcement or rulemaking activity, but hang on to your hat when the wheel turns.

My prediction is that when it becomes clear that the voluntary resignation offer doesn’t get much take-up that the DOGE folks then try mass layoffs, but they’re going to be on shaky legal grounds for what is called a "Reduction in Force" (basically they will have to claim that there is a "lack of work" and they will also have to go through a laborious process for each affected employee), and they also know that they don’t have the gas for a long fight. They need to be able to declare victory fast or they’re going to get mired down and will lose focus.

The DOGE approach is basically Blitzkrieg: roll in with an armored tip of tweets (the equivalent of a Stuka dive siren) and blustery demands for “source code” and the like and tell civil servants to go home or resign by artificial deadlines. It doesn’t matter whether any of this is actually legal. Instead, the point is to create “shock and awe” and hope that a demoralized American civil service will collapse like the demoralized French Third Republic in 1940. The Blitzkrieg strategy requires the defender to believe that defeat is inevitable. But it’s not. There’s actually a straightforward strategy to defeat a blitzkrieg assault that works very well. It’s about doing what you can to blunt the attack while being patient and waiting for the blitzkrieg attackers to run out of fuel and methamphetamines. That was what happened in the 1918 Kaiserschlacht. It’s what would have happened in France in 1940 if the French had been willing to keep fighting. It’s what happened on the Eastern Front in 1941-42. And it’s what happened in 1944 at the Battle of the Bulge. (Yes, I like to read history in my spare time...)

And that suggests a strategy for responding to DOGE: slow ‘em down with litigation and wait ‘em out. Force DOGE to dismantle the CFPB the proper way, bit by bit through legal processes, rather than through shock-and-awe shortcuts. DOGE knows it lacks the capacity to dismantle the agency the proper way, so they’ll eventually just give up. (One can see this point as akin to the argument made by Ezra Klein here.) This sort of strategy takes seeing the big picture, however. If the response is dictated by the hourly news cycle, DOGE Blitzkrieg can work. But if one steps back and sees the larger move, then it becomes clear that DOGE is a lot of sizzle, but not much steak.

We’re already seeing the first salvos of a litigation response. The National Treasury Employees’ Union filed a suit seeking to stop Vought’s CFPB take-over, but NTE's complaint is weak and reads like a rushed filing: NTEU relies entirely on a vague separation of powers argument and is likely to lose, regardless of the judge. But that does not mean that a litigation approach is generally pointless. It just means that it needs to be done better. In particular, there are a bunch of statutory arguments that can be made, especially if one recognizes that the strategy is not an outright win, but delay and forcing DOGE to actually do the hard work that it isn’t prepared or capable of doing. I suspect that the NTEU suit is not the last bit of litigation we’ll see regarding the CFPB.

I don't want to sugarcoat things: in virtually any scenario, we will see scant CFPB enforcement, supervision, and regulation, if any over the next four years. But until and unless Trump-Musk change the CFPB's legal authorities and dismiss its personnel, it will be a hiatus, nothing more, and there will be a CFPB capable of rebooting in the next administration.

Russ Vought Breaks the Law on His First Day as CFPB Director

Adam Levitin — 2025-02-09T00:38:05-06:00

The CFPB's acting Director, Project 2025's Russell Vought notified the Board of Governors of the Federal Reserve Board that the CFPB would not be making its permitted annual draw on the Fed for funding this year. He also direct the CFPB to cease all examination and supervision activity. Both actions are illegal.

Funding. The CFPB gets its funding from quarterly draws on the combined earnings of the Federal Reserve System. The amount of the draw is capped, but within that cap the draw is supposed to be for "the amount determined by the Director to be reasonably necessary to carry out the authorities of the Bureau under Federal consumer financial law, taking into account such other sums made available to the Bureau from the preceding year (or quarter of such year)." The draw request is a final disposition of a matter that isn't a rulemaking, so it is an "order" for purposes of the Administrative Procedures Act. Agency orders have to have a reasoned basis; they cannot be arbitrary and capricious, and they can be challenged by affected parties.

Here it is hard to see how Vought, who has been on the job for around 24 hours, could possibly have made a reasoned determination that the Bureau:

will not be taking its next draw of unappropriated funding because it is not ‘reasonably necessary’ to carry out its duties. The Bureau's current balance of $711.6 billion is in fact excessive in the current fiscal environment. This spigot, long contributing to CFPB's unaccountability, is now being turned off.

Maybe Vought's a quick learner, but I don't see how he could have reached this conclusion so fast in a manner that is not arbitrary and capricious. If he had waited two weeks, it would pass the straight face test, but the dude's been the acting Director for 24 hours. Determining the funding level necessary for the Bureau requires having a fairly sophisticated understanding of its activities and what would be necessary to "carry out the authorities of the Bureau under Federal consumer financial law." The statutory instruction includes a legal term of art, so it doesn't mean "carry out the authorities of the Bureau as I the acting Director would like to see them."

Instead, the "authorities of the Bureau under Federal consumer financial law is defined by another provision in the CFPA: "The Bureau is authorized to exercise its authorities under Federal consumer financial law to administer, enforce, and otherwise implement the provisions of Federal consumer financial law." In other words, before making the draw, the CFPB Director has to first determine what the Bureau needs to do to "administer, enforce, and otherwise implement the provisions of Federal consumer financial law." He cannot legally say "I don't want the Bureau doing anything, so I won't make a draw." Instead, he has to come a reasoned conclusion about how much funding the Bureau requires to actually administer and enforce the law, etc., even if he doesn't want the law administered and enforced. Notably, nothing in the statute permits him to consider the "current fiscal environment" or what he sees as the "CFPB's unaccountability." There's a rich irony that a guy who complains about the CFPB being unaccountable acting arbitrarily and capriciously.

What's more, Vought's got his numbers wrong. The CFPB does not have $711.66 billion sitting around. It doesn't even have a measly $1 billion. Instead, as of the end of FY 2024 the CFPB had unobligated balances of $203 million. If the head of the OMB head can't tell millions from billions, this country is in deep trouble. But perhaps it's easy to confuse millions with billions when you are working for a fake billionaire.... (Vought subsequently corrected his tweet...)

Now lest you say, "well, $203 million is more than enough," the Congressional Research Service noted that "the CFPB's projected budget estimate for its operations in FY2025 was $810.6 million. These projected budget estimates could change based on a change in the director or in CFPB’s priorities." There is nothing that binds Vought to the Bureau's previous estimated budget, but if he's going to conclude that $203 million is adequate, he needs some sort of basis for his judgment. I don't see how he could have one yet, and, as discussed below, if he thinks he can save money by stopping supervision, well, he can't.

Examinations and Supervision. The Consumer Financial Protection Act requires the CFPB to conduct examinations and supervision of covered non-bank financial institutions. 12 USC 5514(b) provides that "The Bureau shall require reports and conduct examinations on a periodic basis of [certain nonbanks] for the purposes of...assessing compliance with the requirements of Federal consumer financial law...." (emphasis added). The Bureau has discretion as to how it conducts examinations and when, but it does not have discretion over whether do undertake them. Contrast this with the permissive language of 12 USC 5515, regarding examinations of very large banks, which gives the Bureau the exclusive authority to conduct such examinations for compliance with Federal consumer financial law, but does not in fact require the examinations. A blanket order to stop examinations and supervision is illegal. That doesn't mean that Vought cannot otherwise gut the examination process, but it's going to require a bit more work to do so legally.

Vought's illegal orders affect not just CFPB employees and vendors and consumers. They also affect regulated institutions. The CFPB is by statute supposed to create a level playing field to "promote fair competition." Stopping examinations for megabanks and nonbanks creates a grossly unfair playing field for community banks, which are still subject to consumer protection examinations by their prudential regulators. And shuttering the CFPB harms all financial institutions that want to play fair and by the rules and not lose market share to cheats.

I expect we'll see litigation soon enough over these issues. Someone is going to have a lot of fun deposing Vought about his decision-making regarding the funding draw....

Updated Feb. 9, 10:34am.

Non-Bankruptcy Law in Bankruptcy Courts

Pamela Foohey — 2025-02-08T09:42:05-06:00

This past year's American Bankruptcy Law Journal symposium at the National Conference of Bankruptcy Judges' Annual Meeting addressed the role of bankruptcy law in the larger U.S. legal system. The ABLJ recently published the related academic papers from that symposium. You can find them on the front page of the ABLJ site now. One of which I was honored to write.

My contribution, The Periphery of Bankruptcy Law: The Importance of Non-Bankruptcy Issues in Consumer Bankruptcy Cases, focuses on the range of state law exemption issues, UCC security interest issues, and federal and state consumer protection legal issues that appear in consumer bankruptcy filings to highlight how bankruptcy courts are one of the leading venues where people's non-bankruptcy legal problems may be litigated. In the piece, I write about how attorneys, trustees, and judges can provide people with a legal process to deal with their financial problems that they find meets their beliefs about what the bankruptcy process will offer them. Doing so will benefit individual debtors and the bankruptcy system, as a whole. As Slipster Bob Lawless has calculated, one in eleven Americans will file bankruptcy at some point during their lives. The chapter 11 cases of large companies and some non-profits make headline news. The public's perception of the bankruptcy system matters to the legal system's integrity.

In addition, the non-bankruptcy law issues brought to bankruptcy courts have the potential to effect change in state law that matters to people. One example that I highlight in my paper comes from Minnesota. For years, the phrasing of Minnesota's exemption language about "household appliances" raised the question of whether personal computers and smart phones were "household appliances." This question had led some debtors to buy these items back from the bankruptcy estate, which, of course, required expending some money. Eventually, not only did Judge Kesha Tanabe, Bankruptcy Court for the District of Minnesota, rule that personal computers and smart phones were "household appliances," but also that decision helped induce the Minnesota legislature to updated its exemption statute to include "computers, tablets, televisions, printers, cell phones, smart phones, and other consumer electronics of the debtor and the debtor’s family . . . ."

Find my contribution to the ABLJ symposium here.

Shutting Down CFPB Is Not Like Shutting Down USAID

Adam Levitin — 2025-02-07T21:38:30-06:00

Elon Musk seems to have CFPB on his hit list after having trashed USAID. Here's the thing: shutting down CFPB is actually very different in effect than shutting down USAID. USAID provides an important set of tools for American diplomacy and funds a lot of good works around the world. But it is not a regulatory agency. It doesn't administer statutes and promulgate regulations. CFPB does. Shutting down USAID harms development aid recipients and diminishes the US's foreign relations toolkit, but it doesn't cause problems with the operation of US law. Shutting down CFPB does.

Shutting down the CFPB does not void the Consumer Financial Protection Act or the enumerated consumer laws the CFPB administers like the Truth in Lending Act and the Electronic Fund Transfer Act. Those authorities can only be changed by an act of Congress, which will require 60 votes in the Senate. Nor would a work shutdown void the regulations the Bureau has promulgated under those laws. Those can only be repealed through notice and comment rulemaking. But it does mean that there would be no one with authority to update and adjust those regulations, which can all be enforced by state attorneys general, who are likely to pick up some of the slack from a non-functioning CFPB. (Remember that a violation of an enumerated consumer law is a violation of the Consumer Financial Protection Act, triggering CFPA remedies, not just the enumerated consumer law's remedies.)

This might not matter to Musk in his move fast and break things mode, but a non-functional CFPB is going to cause real problems for regulated financial institutions. Let's start small: the Truth in Lending Act has exemptions for smaller transactions. The exemptions get inflation adjusted, but that requires a functional CFPB to promulgate the adjustments through rulemakings. Or suppose a firm wants to get a no-action letter. That's not going to be possible without the CFPB functioning. Or suppose there is another pandemic-like crisis that requires temporary suspension of certain rules. Not possible if the agency isn't up and running. Bottom line: there are real problems that will arise from having a zombie agency responsible for over a dozen major federal laws.

Feb. 8. 2025 update: Both USAID and CFPB have statutory duties to Congress. Like USAID, the Bureau is required to submit various annual or semi-annual reports to various Congressional committees (see e.g. or here or here or here or the last section here). These reports are a critical part of Congressional oversight over the Bureau. A Bureau that isn't operating can't exactly do that, which might be grounds for members of Congress to bring litigation against the administration. Whether a report that simply says "We didn't do anything because we didn't feel like it, nyah, nyah," makes muster is an open question—is there a good faith requirement implied? I could see courts saying, "It's up to Congress to discipline an insubordinate agency or a President who fails to take care that the laws are faithfully executed." But the reporting requirement might give members of Congress a hook for litigation over deactivating the agencies based on a concern that the agency will not report and that it will be impossible for Congress to undertake timely action. After all, there is a new Congress every two years, basically pressing a restart button, such that failure to transmit an annual report for 2025 would not even be on Congress's radar until 2026 and Congress might not have time to act before a new Congress is in place. Put another way, courts might need to take judicial notice of Congress's limited temporal bandwidth for governing a federal government that is vastly more complex than anything the Framers imagined.

Hal Scott's Call for a Presidential Ukase on the CFPB

Adam Levitin — 2025-02-02T19:22:44-06:00

Hal Scott is at it again, calling for President Trump to shut down the Consumer Financial Protection Bureau by executive order. Scott's logic here is that (according to him) the CFPB has not had a legal basis for its funding in recent years, so the President would simply be "tak[ing] care that the laws be faithfully executed" by standing down the agency's activities for lack of proper funding, even if the agency would still continue to exists on paper.

If Scott's first argument about the CFPB's funding was farcical, this one is a downright dangerous argument for upending the balance of the constitutional system by giving the President the unilateral power to arbitrarily decide what parts of government operations are legal.

Scott's newest call for Presidential action is based on his tendentious and result-driven textual argument that the CFPB is operating illegally because it is funded out of the "combined earnings of the Federal Reserve System," which Scott interprets to mean the profits of the Federal Reserve System, such that the CFPB has a statutory right to funding only in years when the Federal Reserve System runs a profit, which it has not of late. I've previously addressed how ridiculous this statutory argument is; it's pretty clear that "combined earnings" means gross earnings, not net earnings. It's also absurd to think that Congress wanted the CFPB to operate, but only in those fiscal years in which the Fed made an accounting profit; unfair, deceptive, or abusive acts and practices are just fine when the Fed is losing money. It's hard for anyone to fairly get to Scott's reading of the statute without being seriously motivated.

Notably, in his latest screed, Scott fails to mention that no court has yet to embrace his view about the legality of the CFPB's funding. Only three courts have even touched on the issue, and not one of them has been swayed by Scott's argument. You can find a deep dive in the opinions here, but the tl;dr is that although the rulings haven't been squarely on the merits, courts have shown zero interest in Scott's argument.

In the District Court for the Central District of California in CFPB v. Solo Funds, dismissed the argument in a cursory fashion, noting the defendant hadn't "persuaded the Court that the Bureau's source of funding—even if illegitimate—is grounds for dismissal."
In CFPB v. Active Networks, the Eastern District of Texas denied a motion to dismiss predicated on the funding issue, among other things. It thought so much of the argument that it dismissed it and the defendant's other three arguments out of hand in a single sentence.
And in Texas v. Colony Ridge, the District Court for the Southern District of Texas—hardly a friendly locale for the CFPB—a magistrate judge similarly noted that whether an agency is lawfully funded does not inherently affect its lawful ability to act. What's more, the magistrate judge noted, "the Supreme Court found that the CFPB is constitutionally funded—and it did so during a time when Colony Ridge argues the CFPB was not funded." If Hal Scott can't win in the SDTX, it's hard to imagine his argument having legs in any other court.

So this is what Hal Scott is really arguing: that the President of the United States can unilaterally shut down an entire federal agency based on an farfetched and so-far unsuccessful legal argument about the statutory legality of the agency's funding. In other words, according to Scott's position, there is no presumption about the legality of federal agencies, but rather the President alone gets to make the call. There does not need to be an adverse legal ruling, indeed there does not even need to be a legal opinion from the Office of Legal Counsel at DOJ. It's enough if the President decides to believe the theories of a retired professor.

What's scary here is that there is no limiting principle to Scott's argument. I don't think Scott has thought this far down the line, but based on his logic, if the President were tomorrow to decide that he wanted someone to rid him of a meddlesome agency, all that would be required would be for the President to allege that the agency's funding was somehow illegal (because it's Monday?) and therefore order that the agency cease all activity through an ukase. The President would never have to state what his legal reasoning was, much less put his legal argument to the test in some court before doing so. It wouldn't matter how ridiculous the President's legal theory was. It wouldn't matter that Congress had duly authorized the agency and provided for its funding in a manner it believed to be legal. Nor would it matter that the agency had operated for years without question on the issue. And it wouldn't matter that no court had ever indicated that there was a legal concern about the agency's funding, much less that the Supreme Court had recently signed off on the agency's funding in the context of a different legal challenge.

Nor is Scott's argument even limited to issues of funding. Suppose the President were to decide to rid himself of turbulent Air Force generals by arguing that the Air Force is not specifically authorized in the Constitution (whereas the Army and Navy are, so inclusio unius etc.). Under Scott's logic, all the President would have to do is issue an executive order ordering the Air Force to cease all activities and viola, no Air Force!

Scott dresses up his argument in the framework for a call for the President taking care that the laws are faithfully executed. But make no mistake. It is not a call to heed the law, but a call for the President to ignore the law based on his own arbitrary whim, usurping the powers of both Congress and the judiciary. I understand that some financial services firms would prefer not to deal with the CFPB, but Scott's argument takes us to a place where it is hard for anyone to do business.

Musk and Treasury's Payment Systems (He Punched the Bursar...)

Adam Levitin — 2025-02-01T22:30:55-06:00

Updated Feb. 6, 2025: Elon Musk and his DOGE team are seeking (and apparently gaining) access to Treasury’s computer systems for managing payments. Unfortunately, a lot of the media coverage has done a poor job of explaining the particular concerns, in part because there isn't very good understanding of exactly what Treasury does. Let met try to add some clarity here, recognizing that there's still a lot we don't know about what is motivating Musk.

Payment systems are the plumbing of the economy: they are how funds flow from one party to another. The federal government is the single largest payor (and payee) in the economy, and Treasury operates a very complex set of government accounts payable systems. The Treasury Department is the government's bursar. It is disbursing funds to investors in Treasury securities, to government entitlement holders (Social Security—both OASDI and SSI), to contractors and vendors, and federal employees. Treasury disbursed nearly 1.3 billion payments last year for something like $5.4 trillion. 100% of payments were made on time. There is no payor in the world like it.

The fiscal operations side of Treasury gets virtually no public attention, but it’s really an amazing operation, and something for which the federal government does not get nearly enough credit. We take it for granted that our payments from the federal government will be made without a hitch. And they nearly always are. But it doesn’t just happen. It requires an incredible infrastructure that runs very, very smoothly. Put another way, one thing the federal government does extraordinarily well is disbursing funds. Think about that the next time you hear someone complain about government inefficiency.

Treasury does not operate actual payment systems. Instead, it is a giant bursar's office that uses other payment systems for disbursing funds. Treasury’s disbursement systems are a combination of electronic and paper payment systems. Many of the payments are via ACH (e.g., Direct Deposit of Social Security benefits or payments to vendors who invoice via IPP), some are via prepaid debit cards (e.g., Treasury Direct Express benefits payments to unbanked individuals or EagleCash/Navy Cash/EZPay, which are used by the armed forces), some are wire transfers (e.g., TreasuryDirect payments on Treasury bonds), and some are paper (e.g., legacy paper payments for Social Security recipients who have not gone electronic or perhaps even a tax refund check).

To make these payments work, Treasury needs a fair amount of personally identifiable information about its payees including generally name, address, Social Security number, and basis for payment. In addition, if it is making an ACH or wire transfer payment, it knows the recipient’s bank account number. There’s a bunch of privacy concerns wrapped up in that information: the amount of benefits people receive, the nature of the benefit payments (e.g., SSI indicates that the recipient is either disabled or very low income and resources). Additionally, although Social Security numbers are not “private,” they are often used an identifier for opening accounts, and a bank account number can be used for fraudulent ACH draws. Not surprisingly, Treasury keeps a close lid on all of this information, just as a private financial institution would.

So what’s the problem with Musk poking around? Apparently Musk believes that there are payments being made to “known fraudulent or terrorist groups.” Call me skeptical. Treasury has a pretty robust system Do Not Pay system for detecting improper payments, running payees through several different databases, including the OFAC lists that should identify any payee who is considered a terrorist by the US government. This doesn’t mean that some improper payments do not get made, but there’s a whole office in Treasury that identifies and recovers improper payments, and if the problem is a contractor overcharging the Navy for a toilet seat, well, that's not something that can be identified on the Treasury end of things.

Maybe Musk is hoping to optimize the Office of Payment Integrity, but no one has previously identified its operations as a particular area of concern; indeed, how many people had even heard of the office previously? In any event, this is an incredibly in-the-weeds sort of thing to do, and not where I would have expected him to make a showing. And it’s the sheer implausibility of the claim that Musk is actually concerned about Treasury making too many improper payments that raises the question of what else might be motivating his interest.

I do not know exactly what is motivating Musk. Maybe it was just a function of asking for everything as a matter of course and then getting his hackles up when he was told no. But maybe he actually does have a particular interest in Treasury's payment systems. Three troubling possibilities come to mind as to why he might.

1. Payment Disbursement as a Policy Lever. First, Musk might be interested in the potential for using control of the payment disbursement system as a policy lever. All sorts of activities depend on access to funding, and that requires the ability to receive and make payments, which in turn requires access to the banking system. Over the past decade or so we have seen a broader phenomenon of payment system access being dragooned to achieve policy ends with either limited or no connection to the operation of payment systems. First there was Operation Choke Point, which was an anti-consumer fraud operation of the DOJ aimed at banks that ignored red flags of fraud in the payment system. The fraud concerns stemmed from a sort of off-shoot of on-line payday lending (the sale of consumer loan application data on unpurchased leads), but that at least had some limited payments operations connection, as the banks had chargeback liability to the extent that the fraudster absconded or was insolvent. (That’s also why it was quite reasonable for bank regulators to be concerned about banks providing payment processing services for crypto exchanges—payments involve credit risk to merchants’ banks because of the chargeback possibility.) But we also started to see things like Sheriff Dart of Cook County pursuing MasterCard and Visa as a way to get at human trafficking on BackPage or more recently the litigation against Visa over human trafficking on MindGeek. Likewise, interest groups seeking to limit firearm sales or abortion both explored using the payment systems as a pressure point, if not a choke point. And this is just domestic stuff; our whole sanctions regime, going back to the WWI Trading with the Enemy Act, has been in the first instance about limiting payment system access. (If you haven’t guessed, I have a draft paper about the broader phenomenon, but it’s not quite ready to share publicly…)

What does this have to do with Musk? Well, Treasury could be used as a choke point for control over government policy of even independent agencies, denying payment to contractors who work on those disfavored projects or to recipients of federal funding approved under the Biden administration. Instead of having to gain control over federal agencies one at a time and worry about being undercut by recalcitrant civil servants, if Musk/Trump can control payments disbursements by Treasury, they can exercise a substantial override over agency policies they do not like, at least to the extent that those policies involve payments.

The latest reporting is that Musk's crew sought to freeze payments made by USAID. The Trump administration has already made substantial moves to shut down USAID's activities, but cutting off disbursements might be even more effective than telling USAID employees pencils down.

The ability to control disbursements can be used not just to target whole agency's activities, though. It can also be used more surgically to target particular agency activities that Musk or the White House do not like. For example, imagine someone who was engaged by the SEC to work as an expert witness in an SEC investigation of Tesla. The White House cannot directly control the SEC, but if it has its hands on the payments spigot, it can make it very difficult for the expert witness--just a government contractor—to get paid. It doesn’t really matter if the contractor could bring suit in the Court of Federal Claims and ultimately prevail after a number of years. Who wants that sort of tsuris for an expert witness gig?

Or imagine a contract approved under the Biden administration to facilitate scientific research with periodic disbursements to be made by the federal government. The Trump administration cannot cancel the contract, but if it fails to make payments, it gets to a similar enough result because the research program will collapse if the promised funding is not there—it won’t have the money needed to meet its own expenses. Again, it really doesn’t matter that the aggrieved payee can bring suit in the Court of Federal Claims and ultimately prevail after a number of years. The damage will already be done. A continuous five-year stream of funding is not equivalent to a two-year stream and then a three-year stream with three years in the interim.

What’s more, targeting specific payees can also chill the ability of the federal government to contract in general. Once it gets out that Treasury is stiffing some payees, who is going to agree to contract with it? (I’ve had this concern when working with some state governments…) At best, contractors will be raising their prices or demanding different payment terms, cutting off the float that benefits the federal government. Messing with the full faith and credit of the United States government threatens to undo the enormous work that Hamilton did 250 years ago. Put another way, Musk's actions have introduced a quantum of credit risk—because of unwillingness to pay—into US government obligations. That is incredibly value-destructive to the United States. Don't punch the Bursar.

2. Competitive Conflicts of Interest. A second possible motivation is that Musk is in the process of trying to transform X into a payments platform, as part of an effort to make it an everything app akin to WeChat (and to a lesser extent AliPay), which are dominant in China. (Good luck with that when you have alienated half the country….) X, like many other large tech platform, already has state money transmitter licenses. Musk isn’t exactly looking to compete with Treasury, but potentially he has a commercial use case for some of the personally identifiable data that an average person would not. I have trouble seeing this as his motivation, but who really knows?

3. Punishing political opponents. The payee information data Musk has can be cross-referenced against other databases, such as lists of Democratic donors. Once that's done, Musk has the ability to delay or cut off payments to political opponents. Indeed, just the threat of doing so is a potent weapon. Do you really want to worry that your Social Security payments might get cut off because you gave money to the Dems or because you signed a political petition? There's an implicit threat to the freedoms of association and speech lurking here. It's always been a theoretical possibility, but having a political actor like Musk sticking his fingers around in the accounts payable systems makes this a real concern.

I love teaching payment systems because modern payment systems, including Treasuries, are an infrastructure marvel—they are our aqueducts of commerce. They work beautifully 99.99% of the time, handling trillions of transactions a year. We are used to an incredibly low rate of problems with payments, and payment systems that fail to achieve that end up out of business very fast. Consumers and businesses are not forgiving of payment systems messing up with their funds. So I would be very cautious with tinkering with any well-oiled payment system. It’s not like an app like X that can have some glitches from a software update and patch it a day later and say “no biggie.” And all the more so with Treasury’s distribution systems. Simply put, if you wanted to start a revolution in this country, perhaps the surest way to do so would be to screw up distribution of Social Security funds on the 1st and 3rd of the month. You’d have angry mobs in the streets with pitchforks—those funds are what many people rely on to live. Treasury's payment disbursement system is the mother of all too-big-to-fail financial infrastructure. If FedWire or FedACH went down, it would be bad, but there are other ways to route payments. Treasury is the single largest payer in the economy; there is no substitute source of funds. Musk might want to show civil servants who's boss, but he should remember that one does not lightly tinker with Treasury’s distribution systems.

Pathways to SCOTUS Stardom

Mitu Gulati — 2025-01-05T22:40:30-06:00

For more than a century, most lawyers who showed up at the Supreme Court for arguments were one shotters. But starting in the mid 1980s, a new breed of lawyer emerged. The SCOTUS superstar; someone who was a specialist in making arguments to SCOTUS, showed up repeatedly, and usually possessed the most elite of legal credentials possible. No prizes for guessing the gender and race of most of these SCOTUS superstars. (Aside -- SOOTUS superstars also existed in the early 1800s, but probably for different reasons).

A number of scholars have documented the rise of this new type of lawyer and legal specialty - included here are Kevin McGuire, Richard Lazarus, and H.W. Perry. There has also been interesting work on the question of the impact of this new type of lawyer (they win more and are much better than others at getting cert granted - as work by Adam Feldman & Alexander Kappner has shown).

There has thus far, however, been little attention paid to the dynamics of the gender disparity among SCOTUS superstars. Megan Lemon's excellent new paper, Pathways to the Podium, does just that using a combination of qualitative and quantitative data. The findings from the interviews Megan did with a number of these superstars are fascinating. One of the implications of Megan's study seems to be that men are able to more easily and quickly achieve and monetize their superstardom.