Over five million American families lost their homes to foreclosure during the Great Recession, with minorities hit particularly hard by the crisis. Blacks and Hispanics faced foreclosure at a rate that was double that of white households, according to a 2011 report from the Center for Responsible Lending, with devastating consequences for minority and integrated neighborhoods. The resulting destruction of minority wealth erased decades of progress at narrowing racial wealth gaps—according to the Pew Research Center, the median white household now has 13 times the wealth of the median black household (the largest gap since 1989), and 10 times the wealth of the median Hispanic household (the largest gap since 2001).
A working paper released earlier this week by the National Bureau of Economic Research sheds light on one factor that contributed to these race-driven trends: high-cost loans. The researchers—Patrick Bayer, Fernando Ferreira, and Stephen L. Ross—compared the rates at which minority and non-minority borrowers received high-cost mortgages (commonly known as "subprime mortgages"). These mortgages, which have higher-than-average interest rates (and, consequently, monthly payments), can trap borrowers in a devastating cycle of debt and are also more likely to end in default or foreclosure. The authors found that minority borrowers, even those with good credit, were substantially more likely to take out high-cost mortgages: "Even after controlling for credit score and other key risk factors, African-American and Hispanic home buyers are 105 and 78 percent more likely to have high cost mortgages for home purchases."
While previous researchers (and the Department of Justice) have demonstrated that minorities were more likely to receive high-cost mortgages in the years leading up to the Great Recession, Bayer, Ferreira, and Ross were able to identify a culprit for this discrepancy: high-risk lenders. They found that minority borrowers were substantially more likely to obtain their mortgages from high-risk lenders, and that those high-risk lenders were subsequently more likely to discriminate against minority borrowers by shifting them into high-cost loans, regardless of their credit profile. The authors calculate that the first factor explains 60 to 65 percent of the racial differences in high-cost loans, and the second accounts for 35 to 40 percent. Interestingly, minority borrowers who obtained their loans from low-risk lenders were not more likely to receive a high-cost loan than white borrowers; the discrimination seems to occur almost exclusively at high-risk lenders.
Here's what the authors have to say about their research:
Taken as a whole, the results of our analysis imply that the substantial market-wide racial and ethnic differences in the incidence of high cost mortgages arise because African-American and Hispanic borrowers tend to be more concentrated at high-risk lenders. Strikingly, this pattern holds for all borrowers even those with relatively unblemished credit records and lowrisk loans. High-risk lenders are not only more likely to provide high cost loans overall, but are especially likely to do so for African-American and Hispanic borrowers. In fact, these lenders are largely responsible for the differential treatment of equally qualified borrowers; minimal racial and ethnic differences exist among lenders that serve less risky segments of the market.
Housing discrimination in America is nothing new. For decades, banks, encouraged by the Federal Housing Administration, effectively denied mortgages to minorities or anyone buying a home in a minority-dominated neighborhood. While "redlining" has been officially outlawed, several high-profile lawsuits over the last few years indicate that the practice has quietly persisted, and that lenders systematically steered minorities into higher-cost mortgages in the years before the Great Recession. But, according to this new paper, it's a specific kind of lender (the predatory, high-risk kind) that funnels minority borrowers into higher-cost products. And minorities, even those with good credit, are more likely to take out a loan from exactly this kind of lender.
So why is a minority borrower with good credit more likely to end up at a high-risk lender than a white borrower with a similar credit and income profile? Bayer, Ferreira, and Ross find that most of the racial differences they observe for black borrowers are concentrated in poor, disadvantaged neighborhoods—exactly the sort of neighborhoods that are host to a disproportionate number of predatory lenders. Minority borrowers in poor neighborhoods might just be doing the same thing that borrowers everywhere do: walking over to the lender down the street and applying for a mortgage.
While borrowers with a good credit history certainly could seek out low-risk lenders, a growing body of research suggests that minority buyers may suffer from a lack of knowledge and experience during the home buying process. Researchers have found that minority borrowers are less likely to shop around or compare mortgage rates across lenders (although researchers have also found evidence that lenders treat minority borrowers seeking information differently in subtle, but potentially important, ways).
In another working paper, Bayer, Ferreira, and Ross found that black and Hispanic home buyers paid, on average, a three percent premium for their homes across four metropolitan areas, regardless of the seller's race. The authors suggest "the relative inexperience of black and Hispanic buyers, due to the historically lower rates of home ownership, may contribute to the higher prices that they initially pay upon entering the market." It's easy to imagine how this looks in the real world—decades of discriminatory housing policy have led to a situation in which minority borrowers, particularly those in high-poverty neighborhoods, may not be able to call up their parents and ask for advice during the mortgage shopping or home buying process.
The financial consequences of these loans will be felt for years to come—families who held on to their homes will face higher mortgage payments and a diminished ability to save, while families who lost their homes may never recover from the damage to their credit histories and finances.