Lending mandates hurt most bank customers - Symposium

0 Comments | Insight on the News, Nov 28, 1994 | by Bert Ely

By the end of this year, four banking regulatory agencies are expected to rule on a radical revision of the regulations under which the Community Reinvestment Act is enforced against America's banks and thrifts. This revision, if adopted substantially as proposed, will worsen the impact of a bad law, the fundamental premises of which are long overdue for thorough scrutiny.

A tougher CRA stick is not the way to bring more banking services to low-and moderate-income communities. Instead, Congress should utilize the carrot of marketplace incentives to permit banking to serve these communities, and all of America, better than ever will be possible under the CRA. This can be done by privatizing banking regulation and its attendant deposit-insurance risk through what is called the "cross-guarantee concept."

The CRA was enacted in 1977 to end banking's allegedly inadequate provision of banking services to low-and moderate-income communities. It is doubtful that this avoidance charge was ever proven sufficiently to justify that enactment. Worse, the debate ignored the extent to which then-existing banking regulations discouraged bankers from serving these communities.

Although CRA represents a typical government Band-Aid masking problems created by earlier public policies, it has been relatively benign compared to the intent of the proposed revision. Under current law, each bank and thrift must demonstrate that it is "meeting the credit needs of its entire community, including low- and moderate-income neighborhoods, consistent with the safe and sound operation of such institution...." As currently interpreted, that requires banks and thrifts to demonstrate that they are reaching out to all segments of the market they serve in a safe and sound manner. Thus far, though, they have not actually been required to make specified quantities of loans in specified neighborhoods.

Not surprisingly for a law that addressed symptoms rather than the true causes of a problem, no one is very happy with the CRA. Bankers, particularly those at small institutions, find that compliance with the CRA is expensive and too dependent upon subjective judgments rendered by inexperienced bank examiners. Community activists, on the other hand, believe that bankers have not delivered enough credit to low-and moderate-income neighborhoods and to low-and moderate-income people wherever they live.

The proposed CRA revision builds upon an earlier proposed regulation published in December 1993. That proposal was withdrawn after it was hammered with 6,700 mostly negative letters. The current proposal supposedly knocked the rough edges off the previous one; in fact, the revision is far worse, for it provides an explicit basis for permitting the regulators to tell individual banks and thrifts how much they have to lend in certain neighborhoods. Clearly, that goes far beyond what the CRA authorizes. Whether any banker will battle the regulators in court to block this overreach is another question.

At the heart of the proposed regulation is an innocuous phrase: "assessment context." In reality, it means credit allocation. Essentially, the CRA enforcers will assess a bank or thrifts CRA performance in the context of the regulator's perception of the overall credit, investment and banking-service needs of the communities the bank or thrift serves. Further, the performance of the bank or thrift in question will be evaluated in the context of the performance of other "similarly situated" lenders. In other words, the CRA enforcers will determine for each bank and thrift how much it must lend in certain neighborhoods and possibly even to low- and moderate-income individuals no matter where they live. The bank or thrift would need to meet these criteria in order to obtain a "satisfactory" CRA rating.

A comparative reading of the previous and currently proposed regulations reveals an interesting deletion that highlights the wealth-redistribution slant of the current version. The regulation proposed last December stated that neither the regulation nor the CRA itself requires any bank or thrift to suffer a loss when making loans or investments, expanding its branching network or operating its facilities. These important caveats are missing from the current version, which suggests that the regulators anticipate imposing CRA obligations on a bank or thrift even if those obligations cause a loss for the institution. In other words, the institution will have to overcharge some of its customers to subsidize those activities and individuals favored by the CRA enforcers.

Indeed, an interesting anomaly appears frequently within the proposed regulation: a mention of individuals. The CRA, however, addresses only communities and neighborhoods, not individuals. Hopefully, those aspects of the proposed regulation that focus on individuals will be challenged in the courts.

One of the most obnoxious and yet irrelevant provisions under the proposed regulation would force banks and thrifts with more than $250 million of assets to collect data on the race and gender of small-business borrowers. The need for this data, even in the context of this overly intrusive regulation, is extremely dubious. As Federal Reserve Board Gov. Lawrence Lindsey noted, this gender and race data "is not linked to other the regulation in any way." Lindsey, as quoted in the New York Times, also observed that the CRA "is supposed to be about geography, not race or gender."