Obama admin. sets wide scope for consumer agency

President Barack Obama makes remarks at a reception with National Finance Committee members in Washington, June 29, 2009.

WASHINGTON (Reuters) - The Obama administration sent Congress a draft bill on Tuesday to create a new agency with sweeping powers to impose tough consumer protection rules for banks, mortgage lenders and other financial firms, setting up a summer-long political brawl over the plan.

The legislative language fleshes out a key component of President Barack Obama's goal outlined this month for the biggest revamp of U.S. financial regulation since the Great Depression.

The proposed Consumer Financial Protection Agency aims to protect Americans from abusive practices that helped spark the recent financial crisis, such as deceptive and undocumented mortgage lending, poor disclosures of loan terms, unfair interest rate increases and "fee traps" on credit cards.

But business lobbyists girded for battle over the plan, labeling it an unnecessary layer of new regulation.

"We are going to oppose it in Congress. We are going to fight it tooth and nail," said Thomas Quaadman, executive director with the U.S. Chamber of Commerce.

"As we see it, this continues the patchwork quilt of financial regulation that got us into this crisis in the first place. This is a drastic step backward," Quaadman said.

The 152-page draft bill would consolidate financial consumer protection power in a single agency, stripping this authority from six current regulators, including the Federal Reserve and the Office of the Comptroller of the Currency.

With a single consumer enforcer, the Obama plan aims to prevent "regulatory arbitrage" by firms to seek supervision by the agency with the most lenient rules.

"Under this system you can't escape the appropriate consumer regulation by deciding to organize yourself as a thrift as opposed to a bank, or a mortgage company as opposed to a thrift," said Michael Barr, Treasury assistant secretary for financial institutions. "Consumer protections will be uniform across the board for all financial institutions."

The agency will be focused primarily on credit products such as mortgages, credit cards and other consumer loans, depository savings accounts and payments services such as electronic funds transfers.

It leaves consumer protection rules for mutual funds and other securities products to the Securities and Exchange Commission and also does not affect the authority of the Commodity Futures Trading Commission.

The draft notably does not seek authority for the new agency over insurance products, which are regulated by individual states. The Obama administration has not sought federal charters for insurance as part of its reform agenda.

The proposal was sent to Capitol Hill the day after a U.S. Supreme Court ruling allowed states to enforce their own consumer protection laws against abuses. According to the draft, state laws will supersede the new agency's authority as long as they offer greater protections to consumers.

FRANK COMMITTEE BILL BY AUGUST

Key Democrats in Congress welcomed the proposal and vowed quick action on it. Rep. Barney Frank, who heads the U.S. House of Representatives Financial Services Committee, said the panel would draft and approve its own bill before Congress takes its summer recess starting August 3.

"The federal regulatory system has clearly failed to provide adequate protection for consumers and that failure contributed to the broader economic crisis. That is why I have made the creation of the agency one of our highest priorities," said Frank, a Massachusetts Democrat.

But many Republicans and the financial services industry are less enthusiastic about the plan, which they fear would impose a regulatory burden that will add costs, reduce availability of credit and stifle innovation.

They also fear that stripping existing agencies of consumer authority could reduce their effectiveness.

"We completely agree with and applaud the emphasis the administration has placed on enhancing consumer protection. Our concern is that a new agency, by its very nature, might not effectively serve that objective," said John Dearie, executive vice president at the Financial Services Forum, a lobbying group that represents the largest U.S. financial institutions.

Still, the powers that the Obama administration wants to invest in the new agency are sweeping.

It would be able to write new rules and enforce them, issue subpoenas, hold hearings and seek court orders to halt abusive practices by both banks and non-banks, including the mortgage lenders that fell through regulatory gaps during the housing boom.

Under the draft bill, a five-member board would run the new agency, with four members nominated by the president and the fifth being the head of the new national bank supervisor, a merged agency that the Obama administration wants to take over bank regulation.

Although the Federal Reserve would lose consumer rule-making powers -- authority that critics say it failed to employ to rein in abusive mortgage lenders in recent years -- under the administration's plan, it would gain broad authority as a systemic risk regulator to deal with large institutions whose failure could threaten the economy.

(Additional reporting by Rachelle Younglai and Karey Wutkowski; Editing by James Dalgleish)