Minority Lending and the Subprime Foreclosure Crisis

42 Pages Posted: 9 Sep 2009 Last revised: 12 Sep 2013

See all articles by Henock Louis

Henock Louis

Pennsylvania State University - Smeal College of Business

Date Written: October 1, 2009

Abstract

The current mortgage foreclosure crisis is presumably related to lax lending policies pursued by financial institutions that extended mortgages to borrowers with questionable credit. These so-called subprime mortgage loans were disproportionately offered in minority communities. Accordingly, some economists argue that the crisis is the result of government regulations, which facilitate mortgage access to minorities. Lenders are profit maximizers and regulations supposedly force them to engage in suboptimal behavior by extending credit to unworthy minorities. However, I find that, while subprime mortgage lending is higher in minority areas, the estimated mortgage foreclosure rate is lower in these areas. This evidence is inconsistent with the contention that regulations encouraging lending in minority areas contribute to the subprime foreclosure crisis. It instead indicates that the loan pricing process is biased against minorities, with lenders charging interest rates in minority areas that are not commensurate with the risk profiles of these areas’ residents. On average, moving from the bottom decile to the top decile of minority representations increases a county’s subprime lending by about 25.25%, but reduces the estimated subprime foreclosure rate by about 27.25%. I find no indication that the minority effect could be due to correlated omitted variables. Further analyses are suggestive of some form of irrational statistical discrimination, whereby unfamiliarity with minorities and stereotyping induce biases in lenders’ assessments of borrowers’ creditworthiness.

Keywords: regulations, subprime crisis, foreclosure, minority lending, discrimination, market efficiency

JEL Classification: G01, G14, G28, J71, J78

Suggested Citation

Louis, Henock, Minority Lending and the Subprime Foreclosure Crisis (October 1, 2009). Available at SSRN: https://ssrn.com/abstract=1469092 or http://dx.doi.org/10.2139/ssrn.1469092

Henock Louis (Contact Author)

Pennsylvania State University - Smeal College of Business ( email )

University Park, PA 16802-3306
United States
814-865-4160 (Phone)
814-863-8393 (Fax)

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