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No Evidence of CRA Role in the Crisis

In looking for causes of the subprime mortgage crisis, some people have contended that the Community Reinvestment Act (CRA) pushed banking institutions to make high-risk mortgage loans in lower-income communities and that such lending led to the crisis. In a November 2008 study, Federal Reserve economists Glenn Canner and Neil Bhutta analyzed mortgage-related data to assess such arguments and found no empirical evidence to support the claim that the CRA was a major contributor to the subprime crisis.

Enacted by Congress in 1977, the CRA requires bank regulators to encourage insured depository institutions, such as banks and thrifts, to help meet the credit needs of their entire community, including low- and moderate-income areas. The CRA encourages financial institutions to extend mortgage, small business, and other types of credit to lower-income neighborhoods and households. It also encourages them to provide investments and financial services to businesses and people in low-and moderate-income areas. The law, however, does not set targets or goals for lending, investment, or services. What's more, the law states that banks and thrifts should make loans and investments consistent with safe and sound banking practices. The CRA does not cover independent nonbank lending institutions, such as mortgage and finance companies.

Governor KrosznerIn a December 2008 speech, then-Federal Reserve Governor Randall Kroszner (pictured right) specifically rebutted the claim that the CRA was a major cause of the subprime crisis, drawing on the 2008 staff analysis as well as earlier work done by Fed staff. According to Kroszner, "We have not yet seen empirical evidence to support these claims, nor has it been our experience in implementing the law over the past 30 years that the CRA has contributed to the erosion of safe and sound lending practices." He commented on two reports prepared by the Federal Reserve for Congress: the 1993 "Report to the Congress on Community Development Lending by Depository Institutions," and a 2000 report, "The Performance and Profitability of CRA-Related Lending." These reports analyzed the performance of lending to lower-income borrowers and neighborhoods under the CRA. In the speech, he stated:

"These studies found that lending to lower-income individuals and communities has been nearly as profitable and performed similarly to other types of lending done by CRA-covered institutions. Thus, the long-term evidence shows that the CRA has not pushed banks into extending loans that perform out of line with their traditional businesses."

He went on to discuss the more recent 2008 staff analysis of the relationship of the CRA to the subprime mortgage crisis, which focused on two basic questions: What share of subprime mortgage originations were related to CRA? Have CRA-related subprime loans performed more poorly than other subprime loans?

Profile of Higher Priced Lending in 2006With regard to the first question, the staff analysis focused on lending activity during 2005 and 2006, the period that corresponded to the height of the subprime lending boom. It found that only 6 percent of all higher-priced loans to lower-income borrowers or neighborhoods were made by CRA-covered institutions or their affiliates. In contrast, 20 percent of higher-priced loans to lower-income borrowers were made by independent nonbank institutions, such as mortgage or consumer finance companies, which are not covered by the CRA . Furthermore, nearly 60 percent of higher-priced mortgage loans were unrelated to the CRA because the loans were made to middle- and upper-income borrowers.

With regard to the second question, the study compared the performance of subprime and Alt-A mortgage delinquencies in lower-income neighborhoods to those in middle- and upper-income neighborhoods. Using data provided by First American Loan Performance, it found that delinquency rates of 90 days or more for subprime and Alt-A loans originated between January 2006 and April 2008 were high regardless of neighborhood income. That is, subprime or Alt-A loans made in lower-income neighborhoods (which would be the focus of CRA-related lending) did not perform worse than when such loans were made in higherincome neighborhoods.

To further explore this question, the study compared the performance of subprime mortgages with first mortgages originated and held under the affordable lending programs operated by the national nonprofit NeighborWorks America (NWA). NWA was created by the U.S. Congress to provide financial support, technical assistance, and training for community-based revitalization efforts. It works with many CRA-covered banks and thrifts to originate and hold mortgages made predominantly to lower-income borrowers and neighborhoods. The research showed that loans originated under the NWA program had a lower delinquency rate than subprime loans and a lower rate of foreclosure than prime loans.

In addition, the study examined data made available by RealtyTrac on foreclosure filings from January 2006 through August 2008. These data indicate that most foreclosure filings — about 70 percent in 2006 — have occurred in middle- or upper-income neighborhoods and that foreclosure filings have increased at a faster pace in middle- or upper-income areas than in lower-income areas, where CRA-related lending would occur.

All of this research finds no evidence that the CRA caused the spike in defaults in the subprime market. In his speech, Kroszner concluded, "The evidence does not support the view that the CRA contributed in any substantial way to the crisis in the subprime mortgage market."