Strategically Staying Small: Regulatory Avoidance and the CRA

Abstract

Using the introduction of an asset-based two-tiered evaluation scheme in the 1995 CRA reform, we examine the consequences of regulatory avoidance. Banks exploit the attribute-based regulation by strategically bunching below the $250M threshold. In a difference-in-differences design, we show that banks near the threshold prior to the reform reduce the growth of assets, particularly real estate and C&I loans. These banks also experience an increase in the rejection rate of loans in low-to-moderate-income (LMI) areas, targeted by the CRA, a decrease in lending that other banks do not fill. Regulatory avoidance also produces real effects. The areas with more exposure to these banks experience a decline in county-level small establishment shares and independent innovation. These results highlight a bank’s willingness to take costly actions to avoid regulatory oversight and subsequent credit reduction for individuals whom the CRA is designed to benefit.

Keywords: CRA, Financial Institutions, Regulatory Avoidance, Attribute-based Regulation

JEL Classification: G21, G28