Is Discretionary Pricing Discretionary? The Case of Overages in Mortgage Lending
17 Pages Posted: 5 Aug 2005
Date Written: August 2005
Research on moral hazard and adverse selection indicates that restricting the ability of lenders to price loans could result in less credit being extended to those in the riskiest credit tier. Given that blacks have worse credit than similarly situated whites, then they would be worse off if overages were banned. Second, borrowers who are unfamiliar with the financial system, such as first-time customers, may require more effort by the loan officer to guide the applicant through the process. Unless lenders can recover the cost of this service, the number of loans to such borrowers will probably decrease. Third, research indicates that blacks do not bargain or comparison shop as much as whites. This implies that, ceteris paribus, markup differences will persist even after accounting for risk, service and demographic variables. Finally, these differences may vary across local markets throughout the country.
Future research efforts should analyze loan payment performance after controlling for market forces within the relevant local market. If unexplained pricing differentials exist between minorities and whites, yet loan payments performance is the same, then clearly there exists an arbitrary component to pricing that is probably discriminatory. Alternatively, if unexplained differentials correspond to payment performance, then these differentials are not arbitrary and discriminatory but market driven. Thus, policy makers and regulators should not strive to eliminate differential pricing but should concern themselves with those differences that are unrelated to market forces.
Keywords: overage, mortgage, discrimination
JEL Classification: G18, G21
Suggested Citation: Suggested Citation