The Clinton administration has turned the Community Reinvestment Act, a once-obscure and lightly enforced banking regulation law, into one of the most powerful mandates shaping American citiesand, as Senate Banking Committee chairman Phil Gramm memorably put it, a vast extortion scheme against the nation's banks. Under its provisions, U.S. banks have committed nearly $1 trillion for inner-city and low-income mortgages and real estate development projects, most of it funneled through a nationwide network of left-wing community groups, intent, in some cases, on teaching their low-income clients that the financial system is their enemy and, implicitly, that government, rather than their own striving, is the key to their well-being.
The CRA's premise sounds unassailable: helping the poor buy and keep homes will stabilize and rebuild city neighborhoods. As enforced today, though, the law portends just the opposite, threatening to undermine the efforts of the upwardly mobile poor by saddling them with neighbors more than usually likely to depress property values by not maintaining their homes adequately or by losing them to foreclosure. The CRA's logic also helps to ensure that inner-city neighborhoods stay poor by discouraging the kinds of investment that might make them better off.
The Act, which Jimmy Carter signed in 1977, grew out of the complaint that urban banks were "redlining" inner-city neighborhoods, refusing to lend to their residents while using their deposits to finance suburban expansion. CRA decreed that banks have "an affirmative obligation" to meet the credit needs of the communities in which they are chartered, and that federal banking regulators should assess how well they do that when considering their requests to merge or to open branches. Implicit in the bill's rationale was a belief that CRA was needed to counter racial discrimination in lending, an assumption that later seemed to gain support from a widely publicized 1990 Federal Reserve Bank of Boston finding that blacks and Hispanics suffered higher mortgage-denial rates than whites, even at similar income levels.
In addition, the Act's backers claimed, CRA would be profitable for banks. They just needed a push from the law to learn how to identify profitable inner-city lending opportunities. Going one step further, the Treasury Department recently asserted that banks that do figure out ways to reach inner-city borrowers might not be able to stop competitors from using similar methodsand therefore would not undertake such marketing in the first place without a push from Washington.
None of these justifications holds up, however, because of the changes that reshaped America's banking industry in the 1990s. Banking in the 1970s, when CRA was passed, was a highly regulated industry in which small, local savings banks, rather than commercial banks, provided most home mortgages. Regulation prohibited savings banks from branching across state lines and sometimes even limited branching within states, inhibiting competition, the most powerful defense against discrimination. With such regulatory protection, savings banks could make a comfortable profit without doing the hard work of finding out which inner-city neighborhoods and borrowers were good risks and which were not. Savings banks also had reason to worry that if they charged inner-city borrowers a higher rate of interest to balance the additional risk of such lending, they might jeopardize the protection from competition they enjoyed. Thanks to these artificially created conditions, some redlining of creditworthy borrowers doubtless occurred.
The insular world of the savings banks collapsed in the early nineties, however, the moment it was exposed to competition. Banking today is a far more wide-open industry, with banks offering mortgages through the Internet, where they compete hotly with aggressive online mortgage companies. Standardized, computer-based scoring systems now rate the creditworthiness of applicants, and the giant, government-chartered Fannie Mae and Freddie Mac have helped create huge pools of credit by purchasing mortgage loans and packaging large numbers of them together into securities for sale to bond buyers. With such intense competition for profits and so much money available to lend, it's hard to imagine that banks couldn't instantly figure out how to market to minorities or would resist such efforts for fear of inspiring imitators. Nor has the race discrimination argument for CRA held up. A September 1999 study by Freddie Mac, for instance, confirmed what previous Federal Reserve and Federal Deposit Insurance Corporation studies had found: that African-Americans have disproportionate levels of credit problems, which explains why they have a harder time qualifying for mortgage money. As Freddie Mac found, blacks with incomes of $65,000 to $75,000 a year have on average worse credit records than whites making under $25,000.
The Federal Reserve Bank of Dallas had it right when it saidin a paper pointedly entitled "Red Lining or Red Herring?""the CRA may not be needed in today's financial environment to ensure all segments of our economy enjoy access to credit." True, some householdsthose with a history of credit problems, for instance, or those buying homes in neighborhoods where re-selling them might be difficultmay not qualify for loans at all, and some may have to pay higher interest rates, in reflection of higher risk. But higher rates in such situations are balanced by lower house prices. This is not a conspiracy against the poor; it's how markets measure risk and work to make credit available.
Nevertheless, until recently, the CRA didn't matter all that much. During the seventies and eighties, CRA enforcement was perfunctory. Regulators asked banks to demonstrate that they were trying to reach their entire "assessment area" by advertising in minority-oriented newspapers or by sending their executives to serve on the boards of local community groups. The Clinton administration changed this state of affairs dramatically. Ignoring the sweeping transformation of the banking industry since the CRA was passed, the Clinton Treasury Department's 1995 regulations made getting a satisfactory CRA rating much harder. The new regulations de-emphasized subjective assessment measures in favor of strictly numerical ones. Bank examiners would use federal home-loan data, broken down by neighborhood, income group, and race, to rate banks on performance. There would be no more A's for effort. Only resultsspecific loans, specific levels of servicewould count. Where and to whom have home loans been made? Have banks invested in all neighborhoods within their assessment area? Do they operate branches in those neighborhoods?
Crucially, the new CRA regulations also instructed bank examiners to take into account how well banks responded to complaints. The old CRA evaluation process had allowed advocacy groups a chance to express their views on individual banks, and publicly available data on the lending patterns of individual banks allowed activist groups to target institutions considered vulnerable to protest. But for advocacy groups that were in the complaint business, the Clinton administration regulations offered a formal invitation. The National Community Reinvestment Coalitiona foundation-funded umbrella group for community activist groups that profit from the CRAissued a clarion call to its members in a leaflet entitled "The New CRA Regulations: How Community Groups Can Get Involved." "Timely comments," the NCRC observed with a certain understatement, "can have a strong influence on a bank's CRA rating."
The Clinton administration's get-tough regulatory regime mattered so crucially because bank deregulation had set off a wave of mega-mergers, including the acquisition of the Bank of America by NationsBank, BankBoston by Fleet Financial, and Bankers Trust by Deutsche Bank. Regulatory approval of such mergers depended, in part, on positive CRA ratings. "To avoid the possibility of a denied or delayed application," advises the NCRC in its deadpan tone, "lending institutions have an incentive to make formal agreements with community organizations." By interveningeven just threatening to intervenein the CRA review process, left-wing nonprofit groups have been able to gain control over eye-popping pools of bank capital, which they in turn parcel out to individual low-income mortgage seekers. A radical group called ACORN Housing has a $760 million commitment from the Bank of New York; the Boston-based Neighborhood Assistance Corporation of America has a $3-billion agreement with the Bank of America; a coalition of groups headed by New Jersey Citizen Action has a five-year, $13-billion agreement with First Union Corporation. Similar deals operate in almost every major U.S. city. Observes Tom Callahan, executive director of the Massachusetts Affordable Housing Alliance, which has $220 million in bank mortgage money to parcel out, "CRA is the backbone of everything we do."
In addition to providing the nonprofits with mortgage money to disburse, CRA allows those organizations to collect a fee from the banks for their services in marketing the loans. The Senate Banking Committee has estimated that, as a result of CRA, $9.5 billion so far has gone to pay for services and salaries of the nonprofit groups involved. To deal with such groups and to produce CRA compliance data for regulators, banks routinely establish separate CRA departments. A CRA consultant industry has sprung up to assist them. New financial-services firms offer to help banks that think they have a CRA problem make quick "investments" in packaged portfolios of CRA loans to get into compliance.
The result of all this activity, argues the CEO of one midsize bank, is that "banks are promising to make loans they would have made anyway, with some extra aggressiveness on risky mortgages thrown in." Many bankersand even some CRA advocatesshare his view. As one Fed economist puts it, the assertion that CRA was needed to force banks to see profitable lending opportunities is "like saying you need the rooster to tell the sun to come up. It was going to happen anyway." And indeed, a survey of the lending policies of Chicago-area mortgage companies by a CRA-connected community group, the Woodstock Institute, found "a tendency to lend in a wide variety of neighborhoods"even though the CRA doesn't apply to such lenders.
If loans that win banks good CRA ratings were going to be made anyway, and if most of those loans are profitable, should CRA, even if redundant, bother anyone? Yes: because the CRA funnels billions of investment dollars through groups that understand protest and political advocacy but not marketing or finance. This amateur delivery system for investment capital already shows signs that it may be going about its business unwisely. And a quiet change in CRA's missionso that it no longer directs credit only to specific places, as Congress mandated, but also to low- and moderate-income home buyers, wherever they buy their propertygreatly extends the area where these groups can cause damage.
There is no more important player in the CRA-inspired mortgage industry than the Boston-based Neighborhood Assistance Corporation of America. Chief executive Bruce Marks has set out to become the Wal-Mart of home mortgages for lower-income households. Using churches and radio advertising to reach borrowers, he has made NACA a brand name nationwide, with offices in 21 states, and he plans to double that number within a year. With "delegated underwriting authority" from the banks, NACA itselfnot the banksdetermines whether a mortgage applicant is qualified, and it closes sales right in its own offices. It expects to close 5,000 mortgages next year, earning a $2,000 origination fee on each. Its annual budget exceeds $10 million.
Marks, a Scarsdale native, NYU MBA, and former Federal Reserve employee, unabashedly calls himself a "bank terrorist"his public relations spokesman laughingly refers to him as "the shark, the predator," and the NACA newspaper is named the Avenger. They're not kidding: bankers so fear the tactically brilliant Marks for his ability to disrupt annual meetings and even target bank executives' homes that they often call him to make deals before they announce any plans that will put them in CRA's crosshairs. A $3 billion loan commitment by Nationsbank, for instance, well in advance of its announced merger with Bank of America, "was a preventive strike," says one NACA spokesman.
Marks is unhesitatingly candid about his intent to use NACA to promote an activist, left-wing political agenda. NACA loan applicants must attend a workshop that celebratesto the accompaniment of gospel musicthe protests that have helped the group win its bank lending agreements. If applicants do buy a home through NACA, they must pledge to assist the organization in five "actions" annuallyanything from making phone calls to full-scale "mobilizations" against target banks, "mau-mauing" them, as sixties' radicals used to call it. "NACA believes in aggressive grassroots advocacy," says its Homebuyer's Workbook.
The NACA policy agenda embraces the whole universe of financial institutions. It advocates tough federal usury laws, restrictions on the information that banks can provide to credit-rating services, financial sanctions against banks with poor CRA ratings even if they're not about to merge or branch, and the extension of CRA requirements to insurance companies and other financial institutions. But Marks's political agenda reaches far beyond finance. He wants, he says, to do whatever he can to ensure that "working people have good jobs at good wages." The home mortgage business is his tool for political organizing: the Homebuyer's Workbook contains a voter registration application and states that "NACA's mission of neighborhood stabilization is based on participation in the political process. To participate you must register to vote." Marks plans to install a high-capacity phone system that can forward hundreds of calls to congressional offices"or Phil Gramm's house"to buttress NACA campaigns. The combination of an army of "volunteers" and a voter registration drive portends (though there is no evidence of this so far) that someday CRA-related funds and Marks's troop of CRA borrowers might end up fueling a host of Democratic candidacies. During the Reagan years, the Right used to talk of cutting off the flow of federal funds to left-liberal groups, a goal called "defunding the Left"; through the CRA, the Clinton administration has found a highly effective way of doing exactly the opposite, funneling millions to NACA or to outfits like ACORN, which advocates a nationalized health-care system, "people before profits at the utilities," and a tax code based "solely on the ability to pay."
Whatever his long-term political goals, Marks may well reshape urban and suburban neighborhoods because of the terms on which NACA qualifies prospective home buyers. While most CRA-supported borrowers would doubtless find loans in today's competitive mortgage industry, a small percentage would not, and NACA welcomes such buyers with open arms. "Our job," says Marks, "is to push the envelope." Accordingly, he gladly lends to people with less than $3,000 in savings, or with checkered credit histories or significant debt. Many of his borrowers are single-parent heads of household. Such borrowers are, Marks believes, fundamentally oppressed and at permanent disadvantage, and therefore society must adjust its rules for them. Hence, NACA's most crucial policy decision: it requires no down payments whatsoever from its borrowers. A down-payment requirement, based on concern as to whether a borrower can make payments, iswhen applied to low-income minority buyers"patronizing and almost racist," Marks says.
This policy"America's best mortgage program for working people," NACA calls itis an experiment with extraordinarily high risks. There is no surer way to destabilize a neighborhood than for its new generation of home buyers to lack the means to pay their mortgageswhich is likely to be the case for a significant percentage of those granted a no-down-payment mortgage based on their low-income classification rather than their good credit history. Even if such buyers do not lose their homes, they are a group more likely to defer maintenance on their properties, creating the problems that lead to streets going bad and neighborhoods going downhill. Stable or increasing property values grow out of the efforts of many; one unpainted house, one sagging porch, one abandoned property is a threat to the work of dozens, because such signs of neglect discourage prospective buyers.
A no-down-payment policy reflects a belief that poor families should qualify for home ownership because they are poor, in contrast to the reality that some poor families are prepared to make the sacrifices necessary to own property, and some are not. Keeping their distance from those unable to save money is a crucial means by which upwardly mobile, self-sacrificing people establish and maintain the value of the homes they buy. If we empower those with bad habits, or those who have made bad decisions, to follow those with good habits to better neighborhoodsthanks to CRA's new emphasis on lending to low-income borrowers no matter where they buy their homesthose neighborhoods will not remain better for long.
Because many of the activists' big-money deals with the banks are so new, no one knows for sure exactly which neighborhoods the community groups are flooding with CRA-related mortgages and what effect they are having on those neighborhoods. But some suggestive early returns are available from Massachusetts, where CRA-related advocacy has flourished for more than a decade. A study for a consortium of banks and community groups found that during the 1990s home purchases financed by nonprofit lenders have overwhelmingly not been in the inner-city areas where redlining had been suspected. Instead, 41 percent of all the loans went to the lower-middle-class neighborhoods of Hyde Park, Roslindale, and Dorchester Center/Codman SquareBoston's equivalent of New York's borough of Queensand additional loans went to borrowers moving to the suburbs. In other words, CRA lending appears to be helping borrowers move out of inner-city neighborhoods into better-off areas. Similarly, not-yet-published data from the state-funded Massachusetts Housing Partnership show that many new Dorchester Center, Roslindale, and Hyde Park home buyers came from much poorer parts of the city, such as the Roxbury ghetto. Florence Higgins, a home-ownership counsellor for the Massachusetts Affordable Housing Alliance, confirms the trend, noting that many buyers she counsels lived in subsidized rental apartments prior to buying their homes.
This CRA-facilitated migration makes the mortgage terms of groups like NACA particularly troubling. In a September 1999 story, the Wall Street Journal reported, based on a review of court documents by Boston real estate analyst John Anderson, that the Fleet Bank initiated foreclosure proceedings against 4 percent of loans made for Fleet by NACA in 1994 and 1995a rate four times the industry average. Overextended buyers don't always get much help from their nonprofit intermediaries, either: Boston radio station WBUR reported in July that home buyers in danger of losing their homes had trouble getting their phone calls returned by the ACORN Housing group.
NACA frankly admits that it is willing to run these risks. It emphasizes the virtues of the counselling programs it offers (like all CRA groups) to prepare its typical buyer"a hotel worker with an income of $25K and probably some past credit problems," says a NACA spokesmanand it operates what it calls a "neighborhood stabilization fund" on which buyers who fall behind on payments can draw. But Bruce Marks says that he would consider a low foreclosure rate to be a problem. "If we had a foreclosure rate of 1 percent, that would just prove we were skimming," he says. Accordingly, in mid-1999, 8.2 percent of the mortgages NACA had arranged with the Fleet Bank were delinquent, compared with the national average of 1.9 percent. "Considering our clientele," Marks asserts, "nine out of ten would have to be considered a success."
The no-down-payment policy has sparked so sharp a division within the CRA industry that the National Community Reinvestment Coalition has expelled Bruce Marks and NACA from its ranks over it. The precipitating incident: when James Johnson, then CEO of Fannie Mae, made a speech to NCRC members on the importance of down payments to keep mortgage-backed securities easily salable, NACA troops, in keeping with the group's style of personalizing disputes, distributed pictures of Johnson, captioned: "I make $6 million a year, and I can afford a down payment. Why can't you?" Says Josh Silver, research director of NCRC: "There is no quicker way to undermine CRA than through bad loans." NCRC represents hundreds of smallish community groups, many of which do insist on down paymentsand many of which make loans in the same neighborhoods as NACA and understand the risk its philosophy poses. Still, whenever NACA opens a new branch office, it will be difficult for the nonprofits already operating in that area to avoid matching its come-one, come-all terms.
Even without a no-down-payment policy, the pressure on banks to make CRA-related loans may be leading to foreclosures. Though bankers generally cheerlead for CRA out of fear of being branded racists if they do not, the CEO of one midsize bank grumbles that 20 percent of his institution's CRA-related mortgages, which required only $500 down payments, were delinquent in their very first year, and probably 7 percent will end in foreclosure. "The problem with CRA," says an executive with a major national financial-services firm, "is that banks will simply throw money at things because they want that CRA rating." From the banks' point of view, CRA lending is simply a price of doing businesseven if some of the mortgages must be written off. The growth in very large banksones most likely to sign major CRA agreementsalso means that those advancing the funds for CRA loans are less likely to have to worry about the effects of those loans going bad: such loans will be a small portion of their lending portfolios.
Looking into the future gives further cause for concern: "The bulk of these loans," notes a Federal Reserve economist, "have been made during a period in which we have not experienced an economic downturn." The Neighborhood Assistance Corporation of America's own success stories make you wonder how much CRA-related carnage will result when the economy cools. The group likes to promote, for instance, the story of Renea Swain-Price, grateful for NACA's negotiating on her behalf with Fleet Bank to prevent foreclosure when she fell behind on a $1,400 monthly mortgage payment on her three-family house in Dorchester. Yet NACA had no qualms about arranging the $137,500 mortgage in the first place, notwithstanding the fact that Swain-Price's husband was in prison, that she'd had previous credit problems, and that the monthly mortgage payment constituted more than half her monthly salary. The fact that NACA has arranged an agreement to forestall foreclosure does not inspire confidence that she will have the resources required to maintain her aging frame house: her new monthly payment, in recognition of previously missed payments, is $1,879.
Even if all the CRA-related loans marketed by nonprofits were to turn out fine, the CRA system is still troubling. Like affirmative action, it robs the creditworthy of the certain knowledge that they have qualified by dint of their own effort for a first home mortgage, a milestone in any family's life. At the same time, it sends the message that this most important milestone has been provided through the beneficence of government, devaluing individual accomplishment. Perhaps the Clinton White House sees this as a costless way to use the banking system to create a new crop of passionate Democratic loyalists, convinced that CRA has delivered them from an uncaring Mammonwhen, in all likelihood, banks would have been eager to have most of them as customers, regulation or no.
CRA also serves to enforce misguided views about how cities should develop, or redevelop. Consider the "investment" criterionthe loans to commercial borrowers rather than individual home buyersthat constitutes 25 percent of the record on which banks are judged in their compliance review. The Comptroller of the Currency's office makes clear that it is not interested in just any sort of investment in so-called underserved neighborhoods. Investment in a new apartment building or shopping center might not count, if it would help change a poor neighborhood into a more prosperous one, or if it is not directly aimed at serving those of low income. Regulators want banks to invest in housing developments built through nonprofit community development corporations. Banks not only receive CRA credit for such "investment"which they can make anywhere in the country, not just in their backyardbut they also receive corporate tax credits for it, through the Low Income Housing Tax Credit. Banks have little incentive to make sure such projects are well managed, since they get their tax credits and CRA credits up front.
This investment policy misunderstands what is good for cities and for the poor. Cities that are alive are cities in flux, with neighborhoods rising and falling, as tastes and economies change. This ceaseless flux is a process, as Jane Jacobs brilliantly described it in The Economy of Cities, that fuels investment, creates jobs, and sparks innovative adaptation of older buildings to new purposes. Those of modest means benefit both from the new jobs and from being able to rent or purchase homes in once-expensive neighborhoods that take on new roles. The idea that it is necessary to flash-freeze certain neighborhoods and set them aside for the poor threatens to disrupt urban vitality and the renewal that comes from the individual plans and efforts of a city's people.
But keeping these neighborhoods forever poor is the CRA vision. CRA will help virtually any lower-income family that can come close to affording a mortgage payment to purchase a home, often in a non-poor neighborhood. Thanks to CRA-driven bank investment, poor neighborhoods would then fill up with subsidized rental complexes, presumably for those poor families who can't earn enough even to get a subsidized, easy credit mortgage. The effects of all this could be to undermine lower-middle-class neighborhoods by introducing families not prepared for home ownership into them and to leave behind poor neighborhoods in which low-income apartments, filled with the worst-off and least competent, stand alonehardly a recipe for renewal.
It will take a Republican president to change or abolish CRA, so firmly wedded to it is the Clinton administration and so powerfully does it serve Democratic Party interests. When Senator Gramm attacked the CRA for its role in funding advocacy groups and for the burden it imposes on banks, the Clinton administration fought back furiously, willing to let the crucial Financial Services Modernization Act, to which Gramm had attached his CRA changes, die, unless Gramm dropped demands that, for instance, CRA reviews become less frequent. In the end, Gramm, despite his key position as the chairman of the Senate Committee on Banking, Housing and Urban Affairs (even the committee's name reflects a CRA consciousness) and his willingness to hold repeal of the Glass-Steagal Act hostage to CRA reform, could only manage to require community groups to make public their agreements with banks, disclosing the size of their loan commitments and fees.
A new president should push for outright abolition of the CRA. Failing that, he could simply instruct the Treasury to roll back the compliance criteria to their more relaxed, pre-Clintonian level. But to make the case for repealand ensure that some future Democratic president couldn't simply reimpose Clinton's ruleshe might test the basic premise of the Community Reinvestment Act: that the banking industry serves the rich, not the poor. He could carry out a controlled experiment requiring no CRA lending in six Federal Reserve districts, while CRA remains in force in six others. A comparison of lending records would show whether there is any real case for CRA. In addition, CRA regulators should require nonprofit groups with large CRA-related loan commitments to track and report foreclosure and delinquency rates. For it is these that will reflect the true threat that CRA poses, a threat to the health of cities.