Externalities and Identity Theft
Chris Hoofnagle has a new paper: “Internalizing Identity Theft.” Basically, he shows that one of the problems is that lenders extend credit even when credit applications are sketchy.
From an article on the work:
Using a 2003 amendment to the Fair Credit Reporting Act that allows victims of ID theft to ask creditors for the fraudulent applications submitted in their names, Mr. Hoofnagle worked with a small sample of six ID theft victims and delved into how they were defrauded.
Of 16 applications presented by imposters to obtain credit or medical services, almost all were rife with errors that should have suggested fraud. Yet in all 16 cases, credit or services were granted anyway.
In the various cases described in the paper, which was published on Wednesday in The U.C.L.A. Journal of Law and Technology, one victim found four of six fraudulent applications submitted in her name contained the wrong address; two contained the wrong phone number and one the wrong date of birth.
Another victim discovered that his imposter was 70 pounds heavier, yet successfully masqueraded as him using what appeared to be his stolen driver’s license, and in one case submitted an incorrect Social Security number.
This is a textbook example of an economic externality. Because most of the cost of identity theft is borne by the victim — even with the lender reimbursing the victim if pushed to — the lenders make the trade-off that’s best for their business, and that means issuing credit even in marginal situations. They make more money that way.
If we want to reduce identity theft, the only solution is to internalize that externality. Either give victims the ability to sue lenders who issue credit in their names to identity thieves, or pass a law with penalties if lenders do this.
Among the ways to move the cost of the crime back to issuers of credit, Mr. Hoofnagle suggests that lenders contribute to a fund that will compensate victims for the loss of their time in resolving their ID theft problems.