Eye of the beholder - why mortgage loan rejections for African Americans are not racist - Editorial

National Review, Sept 20, 1993

The social issue du jour for much of the media is the "shocking" pattern of racial discrimination in bank mortgage lending. According to a Boston Federal Reserve Bank study of 6.6 million mortgage applications in 1991, blacks of all income levels are rejected for mortgages at more than twice the rate of whites. This disparity shrinks when adjusted for credit criteria such as the age and quality of the house. Minorities then seem to be rejected at a rate of 17 per cent versus 11 per cent for whites. Nonetheless, according to the Boston Fed, this is a clear sign of racism.

Or is it? The Boston Fed study itself admitted that rejected minority applications on average had "poorer objective qualifications." For that matter, Asian applicants were rejected less often than whites. And there was a very significant test pointing to non-discrimination that the Boston Fed study simply got wrong. If banks really hold blacks to a higher standard than whites, we would expect to find the default rate for blacks lower than that for whites. It isn't. Census data show that black and white mortgage borrowers have the same default rate. In other words, the higher black rejection rate reflected a rational - and successful - effort to equalize credit risks among mortgage applicants.

When this point was brought to her attention by Forbes magazine, Alicia Munnell, the Boston Fed's research director before she accepted a position with the Clinton Administration, admitted that it undermined her report's main conclusion. "I do not have evidence ... no one has evidence," she conceded. That did not, of course, change her opinion that "discrimination occurs." Nor did her admission make it into subsequent news reports in the New York Times and Wall Street Journal on the epidemic of racism in mortgage lending.

Discrimination does occur, but not the type that grabs headlines. Banks would rather not make mortgages of less than, say, $40,000, because processing costs and federal regulations make such small loans money-losers. They prefer mortgage applicants who have already established credit-worthiness by paying off credit cards and other loans. A stable job history is preferred to a history of part-time positions. None of these sound business practices has anything to do with race. But color-blind adherence to them might create the appearance of racial discrimination.

Yet the adverse publicity - augmented lately, and inevitably, by Ralph Nader's trumpetings - has terrified bankers. Lenders are bending rules that limit mortgage payments and other charges to a specific fraction of the borrower's income. Some, like NationsBank, go so far as to count food stamps and welfare benefits as income of minority mortgage applicants. Wells Fargo pays a bonus to any employee who brings in a customer from a low-income neighborhood to its mortgage department.

And the bottom line? There are several. Other things being equal, banks will be less profitable, savers less well rewarded, federal insurance schemes shakier, the economy slower. Devalued too will be the efforts made by many black people in hard circumstances to meet demanding credit standards - and so the incentives for others to do the same. Why try hard when trying easy is enough?