The Redlining Menace: Strangling Private Investment in America’s Cities

Flexing its muscle with new Republican majority in Congress, the banking industry has launched a full-scale attack on one of the most effective community development programs in recent history. GOP leaders in both houses have filed industry-sponsored legislation that would gut the Community Reinvestment Act (CRA), which since 1977 has been the catalyst for more than $60 billion in private investment in inner-city neighborhoods.

Congress passed the CRA in an effort to combat redlining—the practice of banks refusing to make loans in older, inner-city and minority neighborhoods. Redlining has devastated urban communities across the country, leading to much of the blight that scars many American cities.

Community development groups now fear that the powerful banking industry—among the most generous contributors to congressional campaign coffers—will reverse almost two decades of progress. Last January, Senate Republicans put the CRA on its “hit list” of the 10 worst federal regulations. At hearings in March before the House Banking Committee, officials from banking industry trade associations claimed that the CRA requires mountains of paperwork and called it “quota lending.” Rep. Toby Roth (R-WI) called for the total elimination of the CRA, arguing that “it’s not needed, and it’s unworkable.”

At its most basic level, the CRA fight reflects a clash in views over the proper role of government in addressing social and economic disparities. Most bankers view the CRA as government intrusion into business, while community activists say it is needed to stop lenders from engaging in well-documented discriminatory practices.

Under the CRA, federal regulators rate banks according to how well they are meeting the credit needs of inner-city neighborhoods. Banks with poor CRA ratings can be denied permission to merge with other banks, engage in interstate banking, or open new branches. Regulators can also forward cases to the Justice Department, which can sue banks for civil rights violations. 

Some local governments and community groups draft their own “report cards” on banks’ performance. Using data required by the 1975 federal Home Mortgage Disclosure Act (HMDA), they evaluate how well banks are doing in low-income neighborhoods. Some cities have adopted “linked deposit” policies, placing city funds in banks that receive good grades and withdrawing city monies from banks with poor track records.

Community groups regard the CRA as a success. The CRA doesn’t require banks to make loans to unqualified customers, but to serve markets that have been previously neglected. Despite the claims of bankers, the act requires little bureaucracy and little paperwork. Federal Reserve Governor Lawrence Lindsey has said that the “CRA accounts for $4 to $6 billion annually being invested in low-income areas without employing a large bureaucracy.” Thanks to the CRA, lenders have profitably invested at least $60 billion targeted to working families and poor communities, according to the National Community Reinvestment Coalition, an umbrella group for CRA advocates. In doing so, the act has helped strengthen the tax base and improve the fiscal condition of many cities. These investments, primarily in housing, have created many jobs, expanded homeownership and stabilized troubled neighborhoods.

The CRA has also been a countervailing influence to the frenzy of bank deregulation and speculation of the ‘80s. Studies show that banks make a good profit on so-called “CRA loans.” The Woodstock Institute, a Chicago-based nonprofit think tank, found that default rates for CRA loans are no higher than the rates for regular loans. And it’s hard to find evidence that the CRA is battering banks’ bottom lines. In fact, banks have recently posted record-breaking profits. Commercial banks earned more than $43 billion in profits in 1993 and more than $34 billion in the first three quarters of 1994. Ninety-six percent of all lenders were profitable last year. Indeed, if lenders (especially those in California) had been making these kinds of loans during the ‘80s, instead of engaging in high-risk speculation, the nation may have avoided the costly S&L crisis and the taxpayer-funded bailout.

In fact, many bankers acknowledge that the CRA is good business. It has helped them tap into previously underserved markets and neighborhoods, where they have found good customers.

Prior to 1991, it was difficult for mortgage studies to gauge discriminatory lending practices precisely because the federal HMDA law only required banks to provide information disclosing the locations of their loans. However, recent improvements in the law—sponsored by Rep. Joe Kennedy (D­MA) and aggressively supported by community activists—now require banks to provide specific information about the race, income and gender of individuals receiving loans. Studies based on this new information have made some disturbing discoveries.

Using 1990 and 1991 data, the Federal Reserve Board looked at the rates at which banks accept and reject mortgage applications from white, black and Hispanic consumers. The first study examined 5.26 million home loan applications made nationwide in 1990, and also looked at the data for 19 metropolitan areas. The study found that banks rejected blacks and Hispanics for home mortgages more than twice as often as whites with similar incomes. The second study, conducted a year later, found the disparities remained the same. A study by the Wall Street Journal, published in February and using 1993 data, found that disparities between whites and blacks had not improved. 

Faced with this evidence, the banking lobby argued that the studies failed to examine differences in "credit-worthiness" between black and white applicants. But an October 1992 report by the Federal Reserve Bank of Boston undercut the bankers' claims. It looked at the credit-worthiness of applicants in the Boston area to determine whether racial disparities in rejection rates could be explained by differences in wealth, employment and credit histories, debts, burdens, or other factors. It found substantial disparities between white and minority lending partners, even when personal financial histories were virtually identical. 

The banking industry's shortsighted attempts to gut the CRA would only compound these problems. The mechanism for gutting the CRA is a bill sponsored by Sen. Richard Shelby (R- AL) and Connie Mack (R-FL) in the Senate and Rep. Doug Bercarter (R­NE) in the House. One part of their proposal would exempt from the CRA all banks with less than $250 million in assets. This covers roughly 88 percent of all lenders. Another part would exempt 94 percent of all lenders from challenges by community groups and local governments, thus eliminating public participation and review in the CRA process. 

President Clinton has been a much stronger supporter of anti-redlining laws than any of his predecessors have been. Clinton carried out his campaign pledge to strengthen the CRA and to push the nation's four bank regulatory agencies to take the CRA more seriously. Soon after taking office, Clinton asked federal regulators to rewrite the rules to make them less vague and to grade banks on their performances, not promises of new programs. In late April, the Clinton administration unveiled new CRA regulations that would require banks to report all their small business loans, which community activists predict will help their neighborhood economic development efforts the way the CRA has already bolstered affordable housing. 

But some bank regulators, including Federal Reserve Chairman Alan Greenspan—no CRA fan—have pressured Clinton to eliminate some of his more aggressive measures. As a result, the administration recently yanked some of its proposals to strengthen the act—dropping proposed fines of $1 million a day for negligent banks and nixing requirements for banks to report the race, gender and specific location of small business loan recipients. 

The banking industry's opposition to the CRA is not simply the typical business sector complaint about regulation and paperwork. The industry is undergoing a major restructuring. In the past decade, the banking industry has become increasingly concentrated. By century's end, most banking experts predict that roughly a dozen "super-banks" will dominate the nation’s financial industry. Moreover, the Clinton administration recently moved to spur that consolidation by unveiling preliminary plans to eliminate legal barriers that have separated the nation’s commercial banks, securities firms and insurance companies since the enactment of the Glass-Steagall Act in 1933. Banking lobbyists do not want civil rights groups and community organizations to use the CRA to obstruct banks' ability to purchase and merge with other banks and financial institutions. 

But the CRA is not just a way of fighting racism and urban decay. It is also an antidote to the frenzy of de­regulation that brought us the disastrous S&L bailout. Unless Congress learns that lesson, the banking industry may again lead the nation into a financial disaster—one that diverts our resources and energies from the pressing problems facing urban America.