It’s Time to Repeal the Community Reinvestment Act


Congressional attempts to enact banking and financial services reform in recent years have stumbled over the Community Reinvestment Act of 1977. That act was originally meant to deal with "redlining," the alleged refusal of banks to lend to residents of poorer urban, often racial-minority areas. The Clinton administration has enforced the act with vigor and wants to strengthen it in current reform legislation on Capitol Hill. But there is no evidence that such discrimination exists, and lots of evidence that the act harms both banks and their customers.

Racial discrimination has unfortunately been part of this country'shistory. Lending discrimination was banned in 1968 by the Equal CreditOpportunity Act. The Home Mortgage Disclosure Act of 1975 (HMDA) wasenacted because banks and thrifts were charged with "redlining" oldercentral-city neighborhoods. CRA followed in 1977. That law requires banksand thrifts to report on lending to poorer neighborhoods and minorities.(Mortgage banks were exempt until 1990 and other lenders still are exempt.That gave a distorted picture about the availability of credit in certainneighborhoods.) The idea of HMDA and CRA was to allow the public and bankexaminers to see where and to whom mortgage loans were being made. But abank would face serious potential problems if it had to get approval fromregulators for some change in its status, for example, merging with oracquiring another bank. A lending record not considered in the "communityinterest" could delay or kill such approval. Even if the regulators hadfound nothing wrong, others could delay approval by filing a complaint,which might be withdrawn after they got what they wanted, such as thebanks' financial support for their preferred projects or organizations.

Try as they might, CRA supporters are hard-pressed to uncover raciallymotivated loan discrimination. Many point to a 1992 Federal Reserve Bankof Boston study of 70 FDIC-supervised banks that found a higher denial ratefor blacks (17 percent) compared to whites (11 percent) that could not beaccounted for by the 30 variables used by the Boston Fed to examine lendingdecisions. But FDIC economist David Horn in 1997 reviewed that study and,in addition to finding mistakes in the data, concluded that more relevantmeasures of a borrower's credit history, such as past delinquencies andwhether the borrower met lenders' credit standards, explained thedifference between lending levels to blacks and whites. In fact, 49 of the70 banks studied did not reject any minority applicants. Two of theremaining 21 were responsible for half of the denials of black applicants.One of those banks was minority-owned, and the other had extensive minorityoutreach programs.

Other evidence of a lack of racially motivated loan discrimination is foundin the fact that the FDIC must turn over to the Department of Justiceevidence of such discrimination. Of some 8,000 banks and thrifts monitored,DOJ referred only four cases in 1992, 13 in 1993, 25 in 1994 and 10 in1995. Of those 48 referrals, legal action was taken in only six cases, ofwhich four were settled by consent agreements.

Some supporters claim that stricter Clinton administration CRA enforcementhas reduced or ended discrimination. They note that between 1993 and 1997,mortgages made to all borrowers increased by 30 percent, while mortgagesmade to minority borrowers increased by 63 percent. But Chicago Fedeconomists Douglas D. Evanoff and Lewis M. Segal found that the increasedrates of loans to poorer neighborhoods were about equal before and after1992. Further, Federal Reserve Board economist Robert Avery found that in1993 and 1997, institutions both not subject to and subject to CRA madeabout the same percentage of mortgages to lower-income borrowers andneighborhoods as they did to all borrowers.

CRA has been costly to banks and thrifts. Direct costs include preparingthe required HMDA and CRA reports, hiring compliance officers and dealingwith CRA examiners. Indirect costs include those involved by delay inobtaining regulatory approval for mergers, acquisitions and branch changes;legal costs incurred in replying to unfounded complaints; and costs forpaying off "community activists" with unprofitable loans.

Anjan V. Thakor and Jess C. Beltz found that, in 1992, CRA cost the 445relatively small banks that they surveyed 4.5 percent of their pretaxincome and 0.25 percent of their total assets, on average. Further,suburban banks often make subsidized or unprofitable loans in centralcities or to minorities in order to fulfill CRA obligations. This"cream-skimming" practice of lending to the most financially soundcustomers draws business (and complaints) from minority-owned local banksthat normally specialize in service to that clientele.

Banking deregulation and improved technology have resulted in a national,indeed, an international, market for home mortgages. In most communities,potential home buyers and real estate brokers can place mortgages, oftenwith hundreds of lenders. Newspapers carry comparative rates. Informationand applications can be obtained by telephone or through the Internet.Consequently, it is very likely that all profitable demand for mortgages ismet.

CRA is costly and unnecessary red tape that makes it more difficult forfinancial institutions to serve their customers. Its repeal, notexpansion, would help both banks and home buyers.

George J. Benston

George J. Benston is a professor of finance, accounting and economics at the Goizueta Business School of Emory University and author of a forthcoming Cato Institute Policy Analysis on the Community Reinvestment Act.