History Of Banking
The United States of America has the most powerful banking system in the world. However, this system is one of the youngest, and banking has its own specifics with a lot of restrictions and even archaic elements. Its own banking structure appeared in the United States during the struggle for independence at the end of the 18th century. The role of the US financial sector largely determines many global processes.
From 1781 to 1783, the Bank of North America operated, which was both a commercial bank and the main bank of the country, with a state share of 60% (Walter, 2019). In 1811, the First Bank was not renewed its license due to contradictions between the authorities (Walter, 2019). From 1816 to 1833, The Second Bank of the United States operated as the central bank (Walter, 2019). However, in 1818-19, the US economy experienced a recession, which affected the position of the Second Bank (Walter, 2019). From 1837 to 1862, the United States dispensed with a central bank; in 1863, the Law on National Banks appeared (Walter, 2019). Several banks still had the opportunity to print dollars, but it had to be done with the permission of the Treasury. Individual currencies of the states gradually went out of circulation; different banks began to issue the same dollars.
Community Reinvestment Act
In the 1960s and 1970s, lawmakers noticed that banks were not offering profitable loans to low-income communities (Wachter & Ding, 2020). Banks argued that borrowers in these areas were higher-risk borrowers they did not want to serve. It was difficult to assess creditworthiness using traditional credit assessment tools. People in low-income neighborhoods were less likely to get loans of any kind in their name since it usually took a certain income to get loans.
Lawmakers and activists argued that the banks were discriminatory; this was due to the fact that many of these underserved areas were also areas with large populations of racial minorities. There has been a long history of residential segregation in the United States, which has prohibited people of different skin colors from buying houses where they like it. The Community Reinvestment Act of 1970 was passed so that banks would have the incentive to do more business in these previously ignored areas.
Benefits of CRA
Some of the advantages due to which CRA passed were associated with the easing of mortgage discrimination. Congress passed the Community Reinvestment Act to encourage lending, property ownership, and business expansion. The CRA originated to promote economic growth in depressed areas. Among the advantages of the Community Reinvestment Act of 1970 was also meeting the needs of local communities for credit resources in the territory where their charters are registered. It encouraged lenders to provide mortgage loans to families with low and moderate incomes to work in poor areas. In addition, creditors subject to the Reinvestment Act underwent periodic inspections for compliance with the requirements of this Law. Public authorities used their supervisory powers to encourage financial institutions to meet the credit needs of the local community in a reliable and reasonable manner. This system has greatly contributed to the development of lending to households with low incomes.
Effect on the Communities
Theoretically, loans have become available to the poorest, whose incomes are almost 80% less than the average level in the local community. However, the CRA did not play a role in the housing boom since it was adopted in 1977, while the subprime mortgage boom followed only in the early 2000s (Calem et al., 2020). It is necessary to take into account the fact that the Law began to be enforced much later.
Mortgage banks, which provide more than 50% of all mortgage housing loans, including to families with low incomes, were not subject to the regulation of the Reinvestment Act (Calem et al., 2020). Therefore, it is difficult to consider the increase in the share of homeowners among low-income families as the merit of this Law alone. Specific figures show that lenders not regulated by the Reinvestment Act provided more loans to low-income home buyers. At the same time, lenders regulated by this Law provided many housing loans that were not related to lending to families with low and moderate incomes. Often, the Reinvestment Act did not have a decisive motivating effect on creditors.
Role With Banks
In order to force banks to participate in these programs, the main tool used – was the authority of regulators to issue permits for mergers and acquisitions. During the subprime boom, large banks sought expansion and therefore had to agree to participate. The conditions forcing lenders to work in the market of loans provided to low-income groups of the population were still unprofitable for them. To assess the impact of the Reinvestment Act on banks, the Federal Reserve interviewed 500 large commercial lenders (Calem et al., 2020). Each respondent was asked to estimate the costs associated with lending in accordance with the requirements of the Reinvestment Act. According to 82% of respondents, this lending was profitable but less profitable than conventional market lending (Calem et al., 2020). This was due to high credit losses and low loan prices for low-income families. In an effort to expand the ownership of the real estate, significant economic checks and balances broke down, which was one of the reasons for inflation.
References
Calem, P., Lambie-Hanson, L., & Wachter, S. (2020). Is the Community Reinvestment Act still relevant to mortgage lending? Housing Policy Debate, 30(12), 46-60.
Wachter, S., & Ding, L. (2020). The past, present, and future of the Community Reinvestment Act. Housing Policy Debate, 30(1), 1-3.
Walter, J. (2019). US bank capital regulation: History and changes since the financial crisis. Economic Quarterly, 105(1), 1-14.