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Tuesday, December 16, 2008

One More Time: It Wasn't the CRA

James Kwak has had enough of people trying to blame the financial crisis on government attempts to help poor people through the Community Reinvestment Act:

Community Reinvestment Act Makes Bankers Stupid, According to AEI Research, by James Kwak: One might have hoped that one collateral benefit of the end of the election season would be the end of the attempt to pin the financial crisis on the Community Reinvestment Act, a 1970s law designed to prohibit redlining (the widespread practice of not lending money to people in poor neighborhoods). Unfortunately, Peter Wallison at the American Enterprise Institute ... has proven that some people will never give up in their fight to prove that the real source of society’s ills is government attempts to help poor people. Regular readers hopefully realize that we almost never raise political topics here, but sometimes I just get too frustrated. ...

One of the main arguments against the CRA-caused-the-crisis thesis is that the large majority of subprime loans, and delinquent subprime loans, and the housing bubble in general, had nothing to do with the CRA; it was done by lenders who are not governed by the CRA, and was done in places like the exurbs of Las Vegas or the beachfront condos in Florida, not poor neighborhoods (which generally saw less price appreciation than average). So Wallison comes up with a new argument: relaxed lending standards, encouraged by the CRA, caused lending standards to be relaxed in the rest of the housing market. Really, I’m not making this up. ...

At its core, the argument is that the government forced lenders to make bad loans in one market, so they went and decided to make bad loans in other  markets. Even conceding some of the premises for the sake of argument, this is illogical. Wallison says “it would seem impossible–if down payment or other requirements were being relaxed for loans in minority-populated or other underserved areas–to limit the benefits only to those borrowers.” It doesn’t seem impossible to me... In fact, if you (the bank) truly thought that you were being forced to make bad loans in one market, you would damned well keep those loans out of your other markets. If lenders are as stupid as Wallison’s argument implies they are, then the entire premise of the American Enterprise Institute - that government should leave businesses alone - starts to look shaky.

You can also tell an argument is shaky when an author says “it is difficult to prove cause and effect.” In areas like business, finance, and economics, where there actually are a lot of data, that generally means that it can’t be proven, or it would have been. Wallison’s evidence is that flexible mortgage products became available to the prime market. ... Still hoping to pin this on regulators, Wallison says, “Bank regulators, who were in charge of enforcing CRA standards, could hardly disapprove of similar loans made to better qualified borrowers.” I don’t know where to start here: someone who is against regulation is trying to argue that the CRA tied the hands of regulators who otherwise would have clamped down on flexible mortgages to rich people? I’m in favor of tighter regulation of abusive mortgage products, but I don’t think the CRA is to blame for lack of regulation.

There’s no need to grant the premises, either. The root of the problem, according to Wallison, was that the CRA forced lenders to lower standards in one market. The vast majority of subprime loans were made by institutions that were not even governed by the CRA in the first place. ... So not only does the argument suffer a mid-air accident, it never gets off the ground.

And there’s another reason for that: the large majority of low-income loans made under CRA were traditional fixed-rate loans, not subprime, and they weren’t even bad loans. Wallison says:

There is very little data available on the performance of loans made under the CRA. The subject has become so politicized in light of the housing meltdown and its effect on the general economy that most reports–favorable or unfavorable–should probably be discounted.

This is a very clear rhetorical tactic: when you can’t find data that you need to support your argument, say the data don’t exist, or that they are so politicized that they should be discounted. (This is the “two sides to every story” argument used so effectively by, among others, people who say that global warming is not happening.) Wallison does, however, cite one study...

This is the sentence immediately before the one Wallison cites, plus the one he does cite:

A large proportion of respondents in all bank-size categories reported that CRA-related and other home purchase and refinance loans have very similar origination and servicing costs, credit losses, and pricing on a per-institution basis. However, the respondents who did report differences most often said they had lower prices or higher costs or credit losses for CRA-related home purchase and refinance loans than for others.

Read that first sentence again: a large majority of banks say CRA loans do just fine. This is Wallison’s source I’m quoting. This is the best evidence Wallison can find, and presumably (since this is his specialty, not mine) he went looking for it. Not only does the plane not get off the ground, but the airline canceled the flight before boarding.

OK, I’ve already spent more of my morning on this than I wanted to, and I haven’t even gotten to the section on Fannie and Freddie.

    Posted by on Tuesday, December 16, 2008 at 10:17 AM in Economics, Financial System, Housing | Permalink  TrackBack (0)  Comments (44)

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