Access to credit is a fundamental pillar of modern capitalism, but some evidence suggests that not everyone in the U.S. has equal access to loans. Ethnic and racial minorities in particular are often excluded, according to a recent report issued by Chicago-based Woodstock Institute.
The result is a huge hurdle for communities that are struggling to boost jobs, revitalize neighborhoods and create a more resilient local economy. And for entrepreneurs and business owners, alternative sources such as financial technology (fintech) lenders, as well as other options within the “shadow banking” sector, are often far more expensive and impose more onerous terms.
This current problem is analogous to the “redlining” crisis a decade ago, during which it became clear that racial and ethnic minorities often paid both higher interest rates and more punishing fees for home mortgages. Those discrepancies were revealed as the American financial industry teetered closer to the subprime mortgage fiasco. That domino eventually led to the near collapse of the U.S. economy as some analysts suggests it lost $22 trillion in value between 2008 and 2009.
The survey looked at Community Reinvestment Act (CRA) data since 2001, notably loans that were made under $100,000, which have comprised 92 percent of all CRA-reported loans. These loans are often the most critical step for small businesses and start-up firms, and in general, such lines of credit are relatively small. CRA loans that were reported in California during 2014, for example, averaged just over $12,000. And most of these CRA loans are made through financial institutions, whether they are the large national banking corporations or community banks.
Woodstock Institute researchers compared CRA data to recent U.S. Census statistics in the cities of Buffalo, New York and New Brunswick, New Jersey. In New Brunswick, businesses located in moderate-income neighborhoods received about two-thirds of the loans for which they applied, and about that same ratio for the dollar amount requested (64.4 percent) during the loan application process. But businesses in lower-income areas only scored about 40 percent of the loans for which they applied, for an average dollar amount of less than 40 percent of what was requested.
Numbers presented for Buffalo tell a similar story. Businesses is low-income areas generated almost 15 percent of all the commerce in the region from 2012 to 2014, but only received 6.3 percent of the region’s total dollar amount of CRA loans during that time. If those same businesses had received a proportional amount of lending from conventional banks, there would have been almost 3,300 more loans with an additional infusion of $43 million in cash.
At a macroeconomic level, small business lending has been on a roller coaster this century. Small business lending grew at a rapid pace between 2001 and 2007, only to crater during the financial crisis and its aftermath. CRA lending increased again after 2010, but by 2014, the total number of such loans was only at 60 percent of its 2007 peak.
But low-income areas nationwide find themselves stifled due in part to unreliable sources of credit. These neighborhoods generated 9.3 percent of all commerce nationwide, but only received 4.7 percent of all lending. From the Woodstock Institute’s point of view, CRA loans had been issued at a more equitable rate between 2012 and 2014, these areas could have benefited from an additional $8.8 billion in investment.
Those figures correlate with lending practices in neighborhoods that were predominantly home to racial minorities or Hispanics. The amount of business generated in such neighborhoods in New Brunswick, for example, received roughly three-quarters of the loans needed compared to the amount of total business they generated. If CRA lending had been at a more level playing field between 2012 and 2014, an additional $183 million in loans could have supported businesses during those years.
The study is a black eye for the CRA, which was passed 40 years ago to eliminate discriminatory lending practices in low-income neighborhoods.
To change these vast discrepancies in lending practices, the Woodstock Institute is recommending a variety of changes, which naturally will be a tall order during the era of U.S. President Donald Trump. From these researchers’ point of view, CRA examiners need to be more rigorous in how they assess banks’ lending practices in these neighborhoods. In addition, small business lenders should be more transparent about their loan data, as is required under the Dodd-Frank Act – legislation that the current administration wishes to weaken, if not eliminate completely. Furthermore, the survey’s authors insist that the fintech sector be held to the same rules as banks, as they are clearly benefiting from the surging number of loans and other forms of credit made to small businesses across the country.
The Main Street Alliance estimates that the fintech and shadow banking sectors have seen the amount of their investments soar to $12 billion in 2015 from $930 million in 2008, and hence suggests that all lenders should be held to the same set of regulatory rules. Regulators also need to hold all financial institutions accountable, as there must be fairness in all lending so that no citizens are denied opportunities based on the color of their skin or ethnic background.
Image credit: Zen Skillicorn/Flickr
Leon Kaye has written for TriplePundit since 2010, and became its Executive Editor in 2018. He's based in Fresno, CA, from where he happily explores California’s stellar Central Coast and the national parks in the Sierra Nevadas. He's worked an lived in South Korea, the United Arab Emirates and Uruguay, and has traveled to over 70 countries. He's an alum of the University of Maryland, Baltimore County and the University of Southern California.