Deep Dive Episode 110 – Community Reinvestment Act: Remedy or Relic?

Congress passed the Community Reinvestment Act in 1977, intending to encourage depository institutions to help meet the credit needs of the communities in which they operate, including low- and moderate-income neighborhoods, consistent with safe and sound banking operations. The Act seeks to achieve this goal through federal examinations and ratings of banks’ performance toward this objective, often driving significant national changes in lending activity. In the intervening time, the nature of banking has substantially changed to encompass online and mobile banking—many Americans do not rely on physical depository institutions in their neighborhood at all—and yet the Community Reinvestment Act has not been amended. Regulations and enforcement priorities under the Act, however, have also shifted with presidential administrations. This episode discusses newly proposed reforms by the Office of the Comptroller of the Currency and the Federal Deposit Insurance Corporation that would shift toward a metric-based, less malleable set of criteria for how banks’ and other institutions’ performance is rated under the Community Reinvestment, as well as how those changes will affect the banking system and low- and moderate-income communities.


Although this transcript is largely accurate, in some cases it could be incomplete or inaccurate due to inaudible passages or transcription errors.

Nathan Beacom:  Good afternoon, and welcome to The Federalist Society’s Fourth Branch Podcast for the Regulatory Transparency Project. My name is Nathan Beacom. I’m the Assistant Director for RTP. As always, please note that all expressions of opinion are those of the guest speakers on today’s call.

Today we bring you a great discussion entitled “Community Reinvestment Act: Remedy or Relic?” For our moderator today, we are pleased to have Elliot Gaiser, who is an Associate at Boyden Gray & Associates. If our audience would like to learn more about all our speakers and their important work, you can visit where we have listed all of their bios. Thank you all for joining us. Elliot, the floor is yours.

Elliot Gaiser:  Thank you, Nathan. And thank you to The Federalist Society for hosting this discussion. The Community Reinvestment Act of 1977 sets out an aspirational goal to require depository institutions to meet the credit needs of their entire community, including low and moderate income neighborhoods, consistent with the safe and sound operation of such institutions. The act seeks to achieve this goal through federal examinations and ratings of banks’ performance toward this objective, often driving significant national changes in lending activity. 

The statute itself provides little specifics for how regulators must implement this goal. This means bank examiners can change what they count as meeting low and moderate income credit needs from year to year, region to region, and institution to institution. For example, according to a recent press report, U.S. regulators are considering giving banks additional regulatory points for lending to mid to low income Americans hurt by the coronavirus via the Community Reinvestment Act. 

But a lot has changed in banking since the law was adopted. When President Jimmy Carter signed the CRA, interstate banking was prohibited. There was no online competition from Quicken Loans or non-bank lenders, and online and mobile banking would have been science fiction. Now, many Americans do not rely on physical depository institutions in their neighborhood at all. 

Some have also argued that the Community Reinvestment Act may encourage the issuance of higher risk loans to borrowers likely to have repayment problems, which could actually undermine the wealth of low to moderate income neighborhoods by increasing the likelihood of foreclosures that undermine neighboring property values as well as increase systemic risk of the type that led to the 2008 financial crisis.

Recently, the Office of the Comptroller of the Currency at the U.S. Treasury and the Federal Deposit Insurance Corporation, the FDIC, released a notice of proposed rulemaking on January 9, 2020, that would shift toward a metric-based, less malleable set of criteria for how banks and other institutions’ performance is rated under the Community Reinvestment Act. The New York Times editorial board criticized the new proposal because it would, quote, “let banks pump less money into lower income communities and even to claim credit for lending that does not benefit those communities,” unquote, such as loans for improvements to stadiums. Nevertheless, the Gray Lady recognized more than four decades after the law took effect, many in lower income neighborhoods remain credit deserts, and minorities in particular still struggle to get mortgages and business loans.

Well, here to discuss all sides of the Community Reinvestment Act and the proposed rule in depth, we’re joined by two experts who will speak in the order I introduce them. Diego Zuluaga is the Associate Director of Financial Regulation studies at the Cato Institute’s Center for Monetary and Financial Alternatives. He’s testified in Congress, and his work has been featured in print and broadcast media such as the Washington Post, Wall Street Journal, American Banker, and London Times. Most relevant here, he’s the author of “The Community Reinvestment Act in the Age of Fintech and Bank Competition.” Zuluaga is prolific public speaker as well as a former lecturer in economics at the University of Buckingham and holds a BA in economics and history from McGill University and a MSc in financial economics from the University of Oxford.  

Providing additional perspective is Professor Mehrsa Baradaran, a Professor of Law at the University of California Ervine School of Law where she writes about banking law, financial inclusion, inequality, and the racial wealth cap. Her scholarship includes several books including The Color of Money: Black Banks and the Racial Wealth Cap, which was awarded the best book of the year by the Urban Affairs Association. Baradaran and her books have received significant national and international media coverage and have been featured in the New York Times, the Atlantic, Slate, American Banker, the Wall Street Journal, and the Financial Times. She’s advised senators and congressmen on policy, testified before Congress, and spoken at national and international forums like the Treasury and World Bank. She earned her bachelor’s degree cum laude from Brigham Young University and her law degree cum laude from NYU, where she served as a member of the New York University Law Review. 

With that, I’ll turn it over to Diego. 

Diego Zuluaga:  Elliot, thank you very much for that introduction. It’s a pleasure to join Mehrsa on this discussion. And it’s obviously a very timely subject and one that I think as we come out of the economic emergency that has resulted from the COVID-19 pandemic will again gain interest because a lot of people are going to find themselves needing credit and with cashflow emergencies that need to be addressed. 

But I do think that the Community Reinvestment Act as it was written in 1977 and as it’s been implemented since 1995 when the current regulations mainly came into effect no longer adequately serves the purpose of increasing financial inclusion. I’ve found in my research that a lot of the credit that is nominally associated with the CRA in the communities that are supposed to be targeted is not going to the populations that are financially excluded and that have the hardest time accessing credit. 

In addition to that, we have some evidence from across the years that some of the lending that’s associated with the Community Reinvestment Act has either been loss-making to banks or it’s been associated with an increase in portfolio risk for those financial institutions. And that is a troubling development because it makes no one better off, neither the financial institution nor ultimately the borrower. 

In addition to that, we have some of the developments that you described in the introduction relating to the development of branching. We have under 5,000 banks today compared to 14,000 and over in the early 1980s. And yet we have many more bank branches, something like 80,000, compared to around 55,000 when the CRA came into effect. So we have a more competitive banking landscape, a more concentrated national banking market, but more access to competitive financial services at the local level. 

And of course, we have the development not only of fintech lending more recently, but for a number of years, indeed since the early 1990s namely, the increase in competition of non-banks and also credit unions in the market for the mortgage and commercial loans that the CRA counts most heavily. The CRA doesn’t count lending from these institutions, but their share has increased over time. In my own data looking at the Home Mortgage Disclosure Act submissions from banks and other lenders, it suggests that credit unions and fintechs in fact lend a higher proportion of their loans to low and moderated income individuals than do banks. That’s not to speak badly of banks, but it is to say that you can have lending to these communities without the affirmative mandates that the CRA places on those institutions.

With that said, I think that the proposals for reform that the OCC jointly with the FDIC have made — have introduced in December of last year and were under review until recently, and we’re still expecting a final rule, I think that those probably make an improvement upon the existing set of regulations. The reason I think these can constitute an improvement is, first of all, that they take into account that we’ve had the development of digital banking, so they look at institutions that are collecting a large share of their deposits; in the proposed regulations, it says more than 50 percent of their deposits. 

And they would allow lending done in areas where those institutions don’t have branches. So they collect deposits in those areas without having physical offices. And they would allow lending in those areas to be counted toward the CRA, which I think is an acknowledgement of an increasing reality of our banking markets. I think also by trying to increase certainty and ex ante establish what kinds of activities and to what extent would count for a bank CRA performance, they’re not only giving banks reassurance about what activities they can engage in, but they’re also giving the public greater transparency when it comes to evaluating the merits of the CRA as to what is actually being done.

In connection to that, these proposed regulations would no longer count mortgage loans made to high income individuals living in low income areas. That’s part of CRA performance. The reason that matters is that in my research, I found that in a lot of metropolitan statistical areas in America, a big share, sometimes the lion’s share of CRA eligible single family mortgage lending is actually going to these high income families, which are not the target of the CRA. Often, these are gentrifying populations that are transforming neighborhoods, and sometimes that may be for the better. Sometimes it may have deleterious side effects on the existing residents in the form of increasing rent prices or otherwise putting pressure on the cost of living in those areas. 

But regardless, they were never the target of the CRA. And counting them as part of the existing regulations, I think is a mistake and gives us a flawed picture of financial inclusion because these are not the populations that we intended to include in the first place. But the proposed regulations would no longer count such mortgage loans, and I think that marks a significant progress.

In addition to that, the proposed regulations would give flexibility to around three-quarters of depository institutions that are not subject to the CRA. What I mean by that is that these institutions which are the smallest banks, ones under $500 million in assets, would have the choice as to whether they abide by the existing CRA regulations or if they follow the new proposed ones. The virtue of having an exemption threshold of that kind is that you’re covering most depository institutions while at the same time you are not covering a big share of assets. So you’re still supervising a tremendous amount of assets under the new regulations, but you’re not increasing regulatory burden on the smallest ones among them.

I do have some concerns which I hope we can discuss in the discussion after these opening remarks regarding the OCC’s proposed ratios for measurement of performance. I am not a fan generally of credit ratios and comparative ratios because I don’t think they capture the complexity of lending in different communities. I also don’t necessarily think that regulators have the knowledge to try and assess what an adequate ratio for performance in terms of the CRA is in every census tract in every metropolitan area. But I also worry that these ratios in the future might be manipulated, and that that could either compromise the safety and soundness of the banking system, or that it could not achieve adequately the goals of financial inclusion of the CRA. 

So I think those ratios should probably be reviewed. But on the whole, I was encouraged by the OCC’s and the FDIC’s proposals. I hope they’re able to take on board some recommendations I’ve made for changing them to improve them. But I think we’re moving in the right direction. And it’s time, 25 years after we last had the major set of revisions to CRA regulations, that this happen again. With that, I will let Mehrsa take the baton. 

Prof. Mehrsa Baradaran:  Thank you. Thank you for having me. And I have to say I mostly agree with what Diego is saying. I do want to zoom out a bit and offer some perspective. And I did testify to the House Committee as they were discussing these changes. And my testimony was very clear, and what I will repeat today is that the CRA is not perfect. It’s actually not the law you would choose if you were to create one ex nihilo today for remedying the problem. 

But it is one of the last vestiges of this thinking about banks that I think has been lost, and that is when the CRA was passed, William Proxmire talked about banks having public duties. They are supported by public FDIC deposit insurance, also the Federal Reserve programs, the entire FHA, GSE mortgage structure and were more so at the time, and therefore, they have certain duties. And one of the duties that the CRA really focuses on is to not discriminate, to not engage in that redlining, or to further get away from those trends. 

And I’ll talk about that in a moment, but I think the scale of the problem is massive. And the CRA, even when it was passed, was not enough to deal with that problem. It is certainly not enough today, especially, as Diego mentioned, banks are no longer geographically constrained. We have interstate banking. We have ATMs. We have all sorts of rapid money flows, globally and domestically. And so the CRA is very much geographically focused. It is branch focused. It is meant for a time when there were community banks, and only community banks, and lots of other bank regulations. 

But I think there has been a push toward deregulation, and a push toward lowering some of the requirements of the CRA, even as many who, like myself, are proponents of further fixing these problems and reforms in that it necessarily just doesn’t do the thing that it needs to be doing. It doesn’t match the scale of the problem. The CRA — 99 percent of merger applications are approved. The CRA hardly ever is used against a bank that is looking for merger approval. It is not a stick in the way that it is meant to be to sort of a thing to check a box, which I think these new revisions don’t — do provide some clarity. 

But in the older version, there was at least some efforts by banks to meet with community groups to look at the scale of the problem in their particular community. And here, I think it streamlines it in a way that it’s probably better for banks than it is for some of the communities, although, again, that other — the pre-format of the CRA was very haphazard. It was random. Certain communities were on top of it, certain banks were, and others weren’t.

But just to scale back and look at the problem, we had starting in 1934 with the HOLC maps and then bolstered through the FHA risk patterns for mortgages, an almost century of redlining where banks were not lending mortgages into black areas and brown areas. And this has created a massive racial wealth gap to the effect that today, black families — white families have 12 times the wealth of black families. And this is not a gap that has closed over time. In fact, it’s increased. And the CRA passed in 1977 was the only affirmative law to change the trajectory of redlining. 

Now, redlining was of course found illegal during the civil rights era, but there was a sense that after having excluded and discriminated for a long time that there had to be something to do — some other revision of the past. You can’t just say, “Okay, from now on, no more discriminating.” You actually have to do something affirmatively. And this is where banks were just charged to give some loans to these areas that they had been avoiding. 

So I think in that way, it is an essential part of achieving that sort of equity. And I will say that I think it’s not the case that banks themselves were responsible for these patterns. They certainly benefitted from it and they were part of this ecosystem, but it was the federal government that created these inequalities in the first place. And I think it’s the federal government’s job to actually fix it. But as far as if we’re talking about the CRA, I think it’s really — the requirements are so minimum right now that further deregulating them or further giving banks a clear checklist of things to do I think will create less of a mandate for banks to do anything. 

As far as fintech firms being able to serve credit unions versus banks, that I think depends on what you measure. I think banks have the public duties that fintech firms don’t. They have the public subsidies that fintech firms don’t. Looking at this PPP program, for example, all of those funds, a lot of the stimulus funds went through banks because banks have a lot of these ongoing relationships with the government regulators, and especially the Treasury and Federal Reserve programs. And what happened when the PPP loans were issued on a first come, first served basis through the banks is that the bigger businesses and the bigger customers got in the front of the line and got those funds. 

There’s a whole wide swath of the country that are banking deserts where small businesses were not able to get those loans. There were small businesses — black and brown businesses specifically were almost completely left out of this program because they don’t have ongoing relationships with banks. So we really do have a preference to route any of these programs through banks. There’s understanding still in our law that Proxmire, the passer of the CRA, said that banks have these public duties. And I think we should maintain those public duties and bolster the understanding of why it is that we have this mandate in the first place. 

But in a perfect world, it would not just be the CRA. It would be a whole program of response to a century of redlining and segregation and discrimination that would be much more robust than just one law demanding that banks not discriminate against certain areas because low and moderate income people live there. I’m happy to discuss more. There’s a lot here.

Elliot Gaiser:  Yeah. Thank you both for your comments. I think we should have a round of responses by our experts to all the great content that we just heard. Diego, if you want to respond to Professor Baradaran’s comments there, and if you’re interested in focusing on better ways besides ratios and balance sheet ratios determining what kind of credit banks receive that would actually create some of the relationships that can infuse credit into underserved neighborhoods and to underserved populations. If you were starting from a blank slate, what would you do to address some of the problems that have been identified and to which the Community Reinvestment Act was laudably targeted?

Diego Zuluaga:  Sure. I think the trouble with focusing a lot of one’s attention on credit is that sometimes that credit is not beneficial to the borrower. And what I mean by that is not necessarily that the borrower doesn’t use it to buy an asset that is adequate, but rather that they’re encouraged to borrow more than they can, that they find themselves in an unsustainable situation in that, for example, becoming a homeowner is only a matter of a few months before the situation deteriorates, or as the economy turns, they find themselves foreclosed upon. 

I think when we talk about financial inclusion today, we really have to focus on the basics. We still have a lot of households in America that don’t have a bank account. But even if they do have a bank account, they often pay high fees because they don’t keep a minimum balance. And if they dip into overdraft, they have to pay high fees relative to the amount that they quote, unquote, “borrow” through their overdrafts as well. 

And a lot of people without bank accounts face a slow payment system. Checks take a long time to clear. Even if you have a bank account and you have checks coming in, they take a long time to clear. For people with low balances, that affects them very heavily. So achieving faster payments I think is one basic requirement of financial inclusion. And I think there are a lot of initiatives on the private side as well as the Fed’s own FedNow program which is hopefully going to come into force in 2024 or 2025. But that’s still a long time away. But achieving faster payments is one. 

Allowing people to more easily build a credit score — and this is related to having some sort of record of your transactions over time — can also be very helpful. According to the CFPB, we have 45 million individuals in America who are unscorable, and therefore they cannot easily access credit because there’s no record of them. And if they can, it’s quite expensive. 

And then finally, I would say one problem we have related more widely than the financial system, related to the cost of living, is that a lot of people aren’t able to build a cushion of savings and ultimately a cushion of net worth that allows them to pass on something to their children but also to face cash flow emergencies in a confident way and with some strength. And that’s something that needs to be addressed on the side of expenses on one hand, but also we need to make it easier for people to save and for people to access different types of financial products that achieve that function of building a nest egg.

And all of those are unrelated to the main focus of the CRA over time which has been on bank branches and bank lending, commercial, but also mortgages and very focused on the geography where one operates. I am in complete agreement with Mehrsa about the huge racial wealth gaps that we have inherited from decades of redlining, some of it encouraged, indeed, by government agencies in the 1930s up to the 1960s. And this is a problem that is wider than the financial system and not really a problem that banks can resolve on their own. And with a six figure median wealth gap between the races, that is something that I think will persist into the future. 

But the problem with the CRA is that it just doesn’t achieve the goal of bringing credit to underserved communities in the way that we are told according to the current regulations. Much of it is going to people who are not targets of the CRA. But then also, sometimes when it goes to the people that the CRA wants to help, it’s lending that’s unsustainable, unsustainable either for the borrower or to the bank. And that is undesirable too. So I think the focus needs to move away from credit, or at least solely from credit, and look much more at individual financial health and their ability to access financial products on the same terms that those of us who are prime consumers can access them.

Elliot Gaiser:  Thanks, Diego. And Professor Mehrsa, I was hoping you could, in addition to responding to Diego’s comments, focus a little bit on the idea that there may be unintended consequences, if any, that you see with the Community Reinvestment Act framework, both the ’95 regulatory framework we experience today as well as the outlined proposal from the OCC and FDIC. I would be very interested in ways that you think maybe we could mitigate unintended consequences.

Prof. Mehrsa Baradaran:  Yeah, one of the unintended consequences is that the CRA has shouldered a lot more blame for the ratcheting up in credit than it deserves. After the financial crisis, a whole lot of people were mistakenly — there was a sense that the entire subprime — the rise of the subprime market was because banks were mandated by law to issue loans to their lower income, inner city communities. And that was not the driver of the subprime market. The driver, as we all know, is the rise of the mortgage-backed securities, the CDO market, the massive Wall Street demand for those loans that came up that were usually actually not CRA. So one of the unintended consequences of this requirement is that it leads to some misunderstandings about what is being done and what is not being done. 

I think Diego is absolutely right that a lot of the credit is going to the most profitable loans in that area. So as soon as you have an area marked out — and I lived in Harlem for ten years, and I watched the banks very closely and what they were lending to. And it was always — and Harlem was a CRA area, but the loans that were being issued were big development projects that had high returns, and they were the kinds of projects that you’d be doing elsewhere, so not like taking a hit. So I think — but the response there is not to say, okay, well, banks are clearly just giving the loans to the more profitable customers; therefore, we should reduce the requirement. It’s to say hey, how do we get the CRA to work for the intended recipients? 

And it is possible that it is so outdated to not be worthwhile, but I don’t think that that’s the case because I think to say that geography doesn’t matter is true when it comes to bank branches and fintech firms. It is not true when it comes to people. So people still are — their fate and their credit scores are very much dependent on their ZIP code or correlated with that. So depending on where you’re born, what ZIP code you live in, your credit options are limited — everything, your school, prospects, the home values, all of that stuff is still very much ZIP code focused, especially with the increased bank closures. So since 2008, 95 percent of bank branch closures have been in lower middle income areas, so areas where the mean salary is below $52,000. So these are the areas that are very much CRA target areas. And so the question is how do we increase services to those areas? 

Diego is also right that credit is not the answer here. I think the answer is a bigger — people need to have access to jobs. You’ve had certain areas that just have lost manufacturing industries, lost jobs. You’ve lost well-paying jobs. You have all sorts of problems, and you can’t just fix them all with this credit mandate. That’s not going to work. 

But it is also true that not all credit is created equal. So the credit you get from a payday lender is clearly not wealth building. But the credit that you get that is more lower cost mortgage or student loans, or even as we’re seeing in some of this crisis, credit that does provide you liquidity if you’re a small business to just make it through a rough patch, whether that’s an individual rough patch or a global rough patch. That kind of credit is essential. And that’s the kind of credit that banks are supposed to be doing. 

And so I think there is a fundamental question of, okay, we can take a snapshot of the banking industry now and just say they’re not serving these communities. They’re not — these laws aren’t doing the thing that they’re intended to do. And then the question — maybe where we disagree — is, therefore, what? And I think my response is, therefore, we should get it done, no matter what it takes. And maybe this is not the ideal way to do it, but we can use this and make it better. And I don’t see these revisions as making them better. I don’t see them as making it worse. It’s just giving banks more of an ability in my view to kind of not sit down with their communities and think through some of these CRA goals. It’s much more of an, okay, if you do this, then you’re okay, more of like a just checklist kind of reform.

Elliot Gaiser:  Well, thank you both for those wonderful comments. We want to make sure that we have time to get to callers and questions that are available if Nathan wants to make sure that that’s possible. 

While we’re waiting for the call queue to build, one thing that I’m interested in knowing is our experts’ perspective on some of the ways that the behind-the-scenes enforcement qualities of the CRA — Mehrsa talked a little bit about how it operates a little bit like a checklist, and 95 or 99 percent or so of mergers end up getting approved, despite CRA scores. And Diego talked a little bit about how there’s some inconsistency in how this is enforced. Do you think that a metric-based solution like the current proposal would help increase consistency, or would it end up making it more like a kind of checklist?

Diego Zuluaga:  The problem with CRA enforcement is that the CRA, because it is a statute that reaffirms an obligation from banks, which are chartered institutions, it isn’t like, say, the Equal Opportunity Credit Act, which bans discrimination in credit and describes the conditions under which such discrimination is actually taking place, or like the Home Mortgage Disclosure Act, which requires data collection that can then be analyzed for one effect or another. The CRA reaffirms that, and it’s the implementing regulations that do the job of actually trying to implement that and have some sort of benchmark by which institutions are held up to that standard. 

The problem is that you are reaffirming an obligation. It is in banks’ business interest, and it is generally also in their social interest, from the conversations that most of us would have with a banker, to serve the communities in which they have physical offices. And so when people say that 98 or 99 percent of CRA eligible institutions — that is, commercial banks — have in thrift get a satisfactory or outstanding rating under current CRA regulations, I don’t necessarily think, like those people perhaps would, that this is an indication that CRA regulations are too lax because really, we would normally expect, unless circumstances are very unusual, that we would expect a bank to try to serve widely the needs of the communities where it is located. 

And so that’s what a lot of reports from CRA examiners will reflect. And they’re very extensive reports, and they look at geographic performance, socioeconomic performance. They look at the number of branches in different communities. CRA regulations also prevent designing an assessment there in such a way as to avoid low and moderate income areas. So I think there’s some virtue in that. 

However, there’s been a great deal of uncertainty in the activities that count and how much they count. I keep saying that a lot of CRA eligible lending goes to high income borrowers because I have no way to verify that the examiners counting all of those loans in the same way. I just know that those loans are in the area where a CRA examiner would look as a low and moderate income area. 

And so I think it’s good in the proposed regulations that a lot of — there’s an explicit list of activities of what will count in CRA examinations. The stadium that was brought up in the proposed regulations got a lot of media coverage, but the truth is that a stadium built in a CRA eligible area would count for CRA credit today by all of the accounts that we have from the examination manuals and so on. It’s just that it’s not explicitly defined. That doesn’t mean that it doesn’t count. So this is no major change that is being introduced in the proposed regulation, so I think that certainty is good. 

I have my reservations about the quantitative metric because I don’t think that, first of all, comparing institutions across geographies and across even neighborhoods reflects the particular circumstances in which they operate. But I also do worry about how you interact those with the economic cycle when the market’s hot versus when the market’s cold. Can you really have the same ratio and measure by the same amount? So I have my concerns, and I would like to see more safeguards in terms of verifying that these ratios don’t have unintended consequences.

Elliot Gaiser:  Well, thank you about that, Diego. Mehrsa, if you have any thoughts on the particulars of this proposal, the kind of activities that are listed as helpful or eligible for CRA credit. Do you think that they’re underinclusive, overinclusive? Some have criticized that listing out the activities in advance is sort of an unfair advantage and creates too much rigidity and not enough flexibility, given the distinctions between geographic areas. I wonder if you had any thoughts about that.

Prof. Mehrsa Baradaran:  Yeah, based on the way that the sector has complied with the CRA, I actually don’t think this is a radical change to what is already being done. I think before these provisions go into effect, banks are already getting some guidance from the regulators and from what other banks are doing as to what complies and what doesn’t comply. So if anything, this just puts it into writing such that you won’t get a rogue regulator not allowing certain activities to be compliant. 

But I think, as Diego said, yes, they do comply. And that doesn’t mean — the fact that you have a 95 percent approval is not a sign that it is lax. It is a sign that banks know what to do to qualify for those. CRA banks are careful about this, as they are about the ECOA. And then Diego’s also right that the ECOA does give a very clear right of action for any sort of discriminatory action. But the CRA doesn’t. The CRA doesn’t allow communities to sue a bank for neglecting certain things. It does allow the regulators to really look and see what the banks have done. 

But I think the fact that they’re complying and they’re doing in in the way that is the most beneficial to their bottom line is good. It’s what banks do. But I think putting it down in writing, these are the things that you have to do to comply, it’s a hard thing because — that’s fine. It’s neither here nor there. It’s already what’s being done. And all it does is take the randomness out of the system so you don’t have wide disparities in enforcement across the bank regulatory — the states and the OCC. 

But I think it still doesn’t get to the heart of the issue. So if I were to see revisions, I would like to see more mandates and more compliance specificity on exactly what the purpose is and more outcome oriented compliance measures. So how many more people got a — who were unbanked are now banked? How many small business — minority-owned small businesses got loans that didn’t? And based on some target, or how many people got a home mortgage loan that would not have otherwise got one? 

And I think these things are hard. Not all banks are the same, and they should not have the same compliance issues. And we already do the graded — this year J.P. Morgan. You obviously have different requirements than the smaller banks. I think more would actually be welcome. I think some banks that have a nationwide footprint should also have a nationwide CRA obligation. And I think this is where Diego’s getting at with the fintech, but I would broaden it to the banks as well that have a digital as well as a physical footprint. And then the small banks do, I think, get the biggest share of the responsibilities, which doesn’t match up with their assets and their capacity.

Nathan Beacom:  Great. Thanks to both of you, Mehrsa and Diego. As Elliot indicated, we will open up the floor mode for audience questions. We have one loaded up. We’ll try to go that caller now. 

Brendan Pedersen:  Hi there. This is Brendan Pedersen from American Banker. Thanks for doing this. I wanted to ask all of you about how you believe the pandemic may affect the CRA rulemaking process. Does the proposal as was issued in December have the capacity to address some of the more severe economic disruptions that a lot of these communities are going to experience in the wake of this?

Prof. Mehrsa Baradaran:  I’ll start. I think it’s a good question. I think if anything — I think, no, it doesn’t have the capacity to address this, or it’s not really meant to, so it’s not fair to put that all on the CRA. But as I was mentioning before, I think this crisis does show the purpose and the reason and the importance of making sure that banks are not leaving out certain communities. 

Again, going back to the PPP issue, it was a major issue that you just had access issues. You had some of the smaller businesses not being able to get their banks to really respond to their needs. And it wasn’t the banks’ fault. The small banks did do it. The second round of PPP recognized that, that the communities that had small banks had more access. And it really does show the importance of, actually, location and bank accessibility and show that smaller banks, community banks are actually somewhat more responsive than the larger banks. And so that’s something that going forward we should keep in mind as we contemplate further reforms. 

Diego Zuluaga:  I would say that there are instruments, both in existing CRA regulations but also in the proposed set of regulations from OCC and FDIC, that would help banks give additional incentives to lend both to businesses and to households in the areas that have been hardest hit by the COVID pandemic. 

So there’s a lot of language in the current regulations about community revitalization and lending in disaster areas. And all of those circumstances are legally defined. I don’t think all of them would apply because some of them are related to natural disasters. But the economic conditions that we often find after natural disasters will apply certainly and unfortunately in some communities. And I think in those cases, the CRA does encourage community reinvestment along the lending and also what’s called community development spending, that is, investments, partnerships with community development, financial institutions, partnerships with nonprofit organizations that are local to the community and so on, that can both benefit the bank in terms of the CRA and also help with addressing some of the more glaring economic issues that these communities will face. 

After that, one challenge that I think we will face coming out of this is that you will have a lot of businesses that have had support intermediated by banks, but really that will be forgiven as part of the provisions of the CARES Act. And while regulators have sent out some statements to the effect that some of the activities that banks are undertaking in terms of forbearance and forgiveness or rescheduling of payments and things like that, that they won’t count against financial institutions and their supervision in terms of safety and soundness. I’m not sure how some of the provisions of the CARES Act will interact with the CRA. 

However, I would cover all of this with the remark that I think because banks have such a big stake in so many of the communities where they operate, and as Mehrsa was saying, particularly in the smaller institutions that have one or two or three offices, they’re really dependent on the wellbeing of those office areas. I don’t think the CRA necessarily will be the main incentive here. I think there will be a lot of other factors driving the kind of behavior we want to see in the aftermath of the pandemic. 

Prof. Mehrsa Baradaran:  Yes. And that’s if the small banks can survive. I think what I worry about is that this further condenses and consolidates the banking sector because the bigger banks are just more — have more resources, more capital, and more ability to just ride this out. So I do hope that we help small banks as much as we can through the next round, depending on how long this thing goes.

Elliot Gaiser:  That is one element of the proposed rule, that it involves some opt-in provisions that Diego spoke about. Do you think that that will overall broadly assist small banks, or is it going to be too marginal to make a big difference in terms of the regulatory obligations and reporting burdens that small banks face?

Prof. Mehrsa Baradaran:  It does, and I think it does. One of the main purposes of this proposed rules is to disaggregate some of the requirements for the big banks and the small banks. And it should help small banks ease their regulatory burdens. And one thing that we haven’t mentioned is banks will — small banks will always mention that credit unions don’t actually have to comply with the CRA. So there are some differences here in requirements, and neither do fintechs, non-bank banks. 

So I think small banks have uniquely felt some of these burdens where they look around at the market and see that the other institutions that they’re competing with — obviously not the way big banks, but the credit unions and midsize non-bank firms don’t have these requirements, and so that kind of rankles, I think. And so anything that we can do to equalize the playing field is good, but that could go in the form of deregulation, or maybe imposing burdens on some of their competitors as well.

Diego Zuluaga:  I agree. I think the exemption is important, and my understanding from speaking to small banks is that their main concern is actually the switching systems. And obviously they have all this built in experience with the existing regulations. And to them, it’s the one-off fixed cost of moving to the new set of regulations and applying the new set of standards that have been published. When you have a dozen employees at your bank, or you have 20 employees, and the person doing CRA is doing so part-time and has other occupations and so on, it can be very onerous. So I am hopeful that those exemptions will be preserved. I have every confidence that they will. 

And the virtue of it because of the structure of the U.S. banking system right now is that exempting with a threshold of $500 million in assets or $1 billion in assets — $1.5 billion, which is actually what I have proposed — you’re covering upwards of 80 percent of banks that are eligible for the CRA, but you’re only affecting a small amount of assets. So if you’re worried about the CRA’s coverage and at the same time minimizing burden, it’s a useful tool to do so.

Nathan Beacom:  Great. Thanks for both of your thoughts on that. We do have one more caller who’s been waiting patiently on the line, so we will go to that next caller now.

Eugene Kermans (sp):  Hey, speakers, thanks. This is Eugene Kermans here. My question is why does it generally make sense to require banks, private companies to make loans to specific communities because if it makes business sense to lend to these communities, then there will be some companies that are willing to lend to them. So why are we requiring — why does the government require banks to make these loans? Thanks. 

Prof. Mehrsa Baradaran:  I can start. Banks are different, and banks are special. Banks are subsidized by various government programs and the idea here — first of all, I think it is a fundamental fact of the credit system that a lot of the credit disparities are rooted in public policy. It is not the case that — not all of them. Certainly, some people are more credit worthy than others because of certain just happenstance or life choices or whatever. But most of these communities that were formerly redlined are not “good” quote, unquote, risks because of this history. 

And the CRA was meant to recognize that, to say, look, from 1934 until 1977, we have just not been lending to these communities. And so we don’t have homeowners. We don’t have this capital base. And so we have to do something to remedy these past injustices. And so that is why the burden. And other creditors will lend, but they’ll do so at a cost. Bank credit is just less expensive because it’s more supported by public programs. And insofar as those public programs are beneficial, which we can debate, we should make them accessible to all people.

Diego Zuluaga:  I think the objectives of the CRA, which is to bring access to credit to everyone in a community, are very worthwhile. And I don’t particularly think that the statutory language of the CRA is very proscriptive. Indeed, not having credit allocation being proscribed was an explicit goal of the discussions around the CRA in the late ‘70s. I think sometimes the regulations, and in particular the interpretation that has been made of some parts of the regulations, have tended in the direction of allocating credit more. And I think in certain instances, it has been either a danger to safety and soundness or harmful to borrowers, or sometimes both, but I think you can have an affirmative obligation of the sort the CRA provides without directing credit in that way. 

I worry about the ratios that have been proposed for the same reason as the questioner because I don’t think that regulators really have either the knowledge or the incentive to do so adequately. But at the same time, as Mehrsa was saying, particularly the historical legacy is that banks not only have had some forms of taxpayer subsidy, but also, they have been privileged in that competition was limited for a long time. And the consequence of that is that certain markets which would normally be worthwhile remained unexplored because it was costly to gain the initial information about a market, about a particular community and how to serve it. And the CRA sought to encourage banks to get into those communities and find out that information to get things started. 

I think that applies less today, and I think there are better ways of achieving financial inclusion. And while I’m very sympathetic to the idea that the market incentives best drive virtuous behavior in a lot of cases, I do think that frictions sometimes apply. And those shouldn’t be understated, particularly when we have a history of discrimination that needs to be addressed. 

Nathan Beacom:  Great. Well, thank you both. We do not have any other callers in the queue, so Diego or Mehrsa or Elliot, do you have any concluding thoughts that you’d like to wrap up with or any further questions?

Elliot Gaiser:  Well, if we don’t have any additional callers in the queue, I think that if Diego or Mehrsa have any concluding parting thoughts to leave our audience. I would say thank you very much for everyone who has listened and to our experts in The Federalist Society for this informative discussion.

Prof. Mehrsa Baradaran:  Thank you. I think my — going back to what I initially was saying as a concluding thought, I think this is a much bigger problem than the CRA is capable of meeting. This is a problem created by public policy that lasted for a long time. I don’t think the banking market is a market in the way that we conceive of markets. There has not been competition; not just not perfect competition, but no competition. There has been a lot of federal government involvement in the banking sector, specifically from the New Deal until today, which we’ve seen post financial crisis. 

So I think shifting these solutions to the market is an abdication of public policy. And insofar as the CRA forces the banking sector to fix something that public policy created, it is also a part of that same problem. But the problem is very real, and I think it behooves us all to fix it so that these communities can escape that self-perpetuating gaps in wealth.

Diego Zuluaga:  I would say that one of the lessons I would draw from the last 20 years or so in U.S. banking is that competition can be a very effective force to spur financial institutions to serve communities that they didn’t previously serve. And while I think it is absolutely necessary and fair to highlight the remaining inequities in access to financial services but also wider inequities in the median wealth of different households and other indicators of economic wellbeing, it’s also worth saying that we’ve had an increasing amount of entry into the financial services sector. We have a lot of exciting technological innovations that are bringing banking services to communities that previously were uneconomical to most providers. And this is what we’re seeing with digital banking, among other trends. 

And therefore, I am excited about what those developments can do in terms of increasing financial inclusion and particularly helping the people that have suffered the most under this failure of public policy, as Mehrsa described. And I’m also excited that regulators are taking account of these developments and seeking to change regulations to better adapt them so that these new benefits can be better harnessed.

Nathan Beacom:  Thanks again to everyone for taking the time to share your knowledge and expertise with us today. We welcome any listener feedback by email at [email protected]. And thank you all for joining us. We’ll see you next time.

Diego Zuluaga:  Thank you very much.

Elliot Gaiser:  Thank you very much.

Mehrsa Baradaran

Professor of Law

UC Irvine School of Law

Diego Zuluaga

Executive Director, Government Affairs

Goldman Sachs

Elliot Gaiser


Boyden Gray & Associates PLLC

Financial Services & Corporate Governance

The Federalist Society and Regulatory Transparency Project take no position on particular legal or public policy matters. All expressions of opinion are those of the speaker(s). To join the debate, please email us at [email protected].

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