This is the text of the keynote speech delivered by Dr. Nandinee K. Kutty at the 2nd Annual Fair Housing Conference organized by the Massachusetts Fair Housing Center on November 14, 2008. The conference was titled “Reclaiming Civil Rights: Commemorating the 40th Anniversary of the Fair Housing Act.”
This powerpoint presentation accompanied the keynote speech (slides are numbered below).
Dr. Kutty delivering the keynote speech at the fair housing conference held at the Western New England College School of Law, Springfield, MA.
It is an honor to be here before this distinguished audience. You have through your work touched the lives of millions of Americans and improved their housing experiences. And as we know, housing experiences relate directly to opportunities—opportunities for a good quality education, good health and access to healthcare, access to jobs, access to social networks, and quality of life. The book that I co-edited—Segregation: The Rising Costs for America —speaks about these complex inter-connections. Thank you, the fair housing community, for your good work which moves our nation forward towards that perfect Union we have been striving to achieve for more than 200 years.
This is a time of great optimism in America. We are on the verge of new Administration starting its work in Washington—and a new President who has promised us change.
While this is a time for optimism, this is not a time for letting down our guard on housing discrimination and lending discrimination. I submit that in the midst of a national foreclosure crisis and the subprime mortgage meltdown, a climate has been created in which minority households and minority neighborhoods are being looked upon with suspicion—as risky propositions. And an a priori formation of such an assessment and acting upon it in a manner that is unfavorable to minority individuals is the essence of racial discrimination, which is illegal. Not only is it illegal, we see the evidence all around us, that racial discrimination in housing markets imposes heavy costs on the entire nation.
I shall speak today about the subprime mortgage crisis and the central role that racial discrimination in housing and housing finance has played in the genesis of this crisis.
There is a clear link between residential segregation and predatory subprime lending—a link that is not often acknowledged. And then, there is a link between predatory subprime lending, that is, lending through subprime mortgage products with abusive features, and the current foreclosure crisis. Beyond that, the link between rising delinquencies and foreclosures on the one hand, and the failure of the U.S. and global financial system seems to be well-known; and there is a great deal written about that. But there does not seem to be clear understanding about the earlier part of this complex story—what led up to the rising delinquencies and foreclosures. In fact, there are a number of myths floating about this, that I shall also address.
It is said that old sins have long shadows. In my presentation today, I shall not go so far back as the original sin of slavery or the “birth defect” (as it has been called) in the founding of our nation —that when the founding fathers asserted that all men are created equal, they did not include in this group men of color or women with or without color. I shall not go that far back. Let me start by talking about residential segregation, and its creation around the early part of the 20th century. Residential segregation has been around in the United States for so long that people often view it as a permanent feature of the American landscape—and as something that is natural, or inevitable.
But in fact, residential segregation is largely a 20th century phenomenon. At the end of the 19th century, and indeed even in very early 20th century, U.S. cities in both the North and the South were not residentially segregated. In the North, African Americans and whites of equal professional status lived as neighbors quite easily. In the South, although African Americans and whites were rarely of equal social status, they were not spatially isolated from one another—they lived adjacent to one another.
So the relatively new phenomenon of so many African Americans being spatially removed from whites and of whites living in homogenous white communities was created in the 20th century. It was created through individual and collective actions, and by private and public agencies. It was created through statute, acts of hostility and intimidation that created “sundown towns” across America, where persons of color were not allowed after sundown. This phenomenon is documented in the book Sundown Towns by sociologist James Loewen. The significant progress made by African Americans during the period of Reconstruction, immediately after the Civil War, was reversed in the subsequent period known as the Nadir in race relations in America. After 1890, town after town, rural area after rural area began to expel non-whites from their jurisdiction. They artificially created pure white communities. This, in fact, preceded and directly contributed to the Great Migration of blacks to large cities of the North and the Midwest. The Jim Crow laws in the South were also an instrument for the tragic reversal of gains made during Reconstruction.
The U.S. federal government, in the 20th century, played an important role in maintaining and strengthening residential segregation. It did so through its agencies like the Home Owners Loan Corporation, the Federal Housing Administration (FHA) and Veteran’s Administration (VA) that openly and legally discriminated against minority and integrated neighborhoods till the middle of the 20th century.
It was around the 1930s that the practice of redlining became widespread.
Slide 2kuttynov14
Here is the Home Owners Loan Corporation’s redlining map of Philadelphia. The blue areas were considered desirable—and the red areas were designated as Hazardous. These red areas were predominantly minority neighborhoods. The HOLC did not guarantee any home mortgage loans in these designated “hazardous” areas. This is the practice of redlining—or denial of home mortgage credit to minority neighborhoods.
The FHA promoted segregated neighborhoods. Here is a page from the FHA underwriting manual of 1939.
The FHA recommended the use of racially restrictive housing covenants, and did not withdraw this recommendation till 1950, after the U.S. Supreme Court declared such covenants to be unenforceable.
Landmark fair housing legislation was passed in the 1960s—the Fair Housing Act of 1968 (FaHA). This made housing discrimination for nearly all types of housing illegal.
So, the open and legal discrimination by the FHA during the 1930s, 40s, and 50s gave way to a widespread practice of covert and illegal discrimination. Nevertheless, this was a discrimination that was harmful to minority families, their neighborhoods and the entire nation. And this was also a discrimination which, though illegal, could not be prosecuted against under existing law—because it was carried out through unwritten agreements. And investigations and other enforcement efforts for fair lending were weak.
Slide 7kuttynov14 Jimmy Carter etc.
Thus, it was residential segregation that made redlining possible. Mortgage lenders, home insurance providers and other real estate professionals were able to mark off entire areas–neighborhoods that they did not serve—the segregated minority neighborhoods.
In this lacuna, caused by redlining, bad actors rushed in to take advantage of the situation. And what resulted is reverse redlining. The same types of neighborhoods that had been denied mortgage credit, were now targeted for special service — for predatory subprime lending. Lots of it. Now credit denial was not the problem, there was plenty of credit available, but on abusive terms.
And again, it is residential segregation that made reverse redlining possible—and efficient. It made these practices efficient from the point of view of the lenders who profited from this arrangement. They could target their marketing efforts, their sales staff, branch offices—all– to particular neighborhoods, to particular blocks, instead of having to fragment their efforts geographically.
Predatory lending practices have existed for a very long time. But these practices grew at an exponential rate from the early part of the 1990s.
The exponential growth in predatory subprime lending in minority communities is a direct result of the denial of prime or standard mortgage products to these communities.
Slide 12kuttynov14 Subprime lending in the 1990s
It seems that the lenders were given free rein in these neighborhoods. These operators were generally unregulated. While numerous consumer advocate groups and civil rights groups represented the case of the victims of fraudulent practices before lawmakers, little was done—at least at the federal level to regulate these operators. On the contrary, federal agencies like the Office of the Comptroller of Currency (OCC) intervened to prevent states from implementing their consumer protection laws for mortgage loans.
Slide 13kuttynov14 Spread of abusive practices
Slide 14kuttynov14 Growth in subprime lending 2001-2005
This growth was driven by lenders and investors, not by demand from borrowers. These types of mortgages were highly profitable for investors on Wall Street—more profitable than the standard mortgage products. As Alan Greenspan said in a Newsweek interview last year (2007):
“The big demand [for subprime mortgages] was not so much on the part of the borrowers as it was on the part of the suppliers who were giving loans which really most people couldn’t afford.” (Newsweek, Sep 24, 2007)
The risky underwriting practices such as low- or no-documentation of income loans were driven by Wall Street’s interest in these high yielding investments. Significant losses to Fannie Mae and Freddie Mac came from its subprime-like prime products, like Alt-A and Option ARMs.
The result of this is record high foreclosure rates:
Slide 15kuttynov14
Slide 16kuttynov14
There are more than 4 million homeowners who are at least one-month delinquent or in foreclosure.
Spatially concentrated foreclosures
A feature of the current foreclosure crisis is that foreclosures are highly spatially concentrated—in a city within certain neighborhoods, and nationwide, 3 or 4 states account for a very large share of the foreclosures because abusive subprime lending was also spatially concentrated. Foreclosures are highly concentrated in the subprime market.
Slide 17kuttynov14 Foreclosures impose high costs to communities
When Dr. King wrote from the Birmingham Jail in 1963 that we are “caught in an inescapable network of mutuality, tied in a single garment of destiny” and that “whatever affects one directly, affects all indirectly,” he was not talking about the subprime mortgage crisis of the early-21st century.
But these words aptly describe the current situation.
He also wrote that the quality of justice is indivisible. “Injustice anywhere is a threat to justice everywhere.” Market discipline, market soundness is also indivisible in our age of globalization. We have seen that market misbehavior in one sector – earlier only in home mortgage lending to minorities, and then to a significant proportion of the U.S. home mortgage market—is a threat to markets everywhere—to financial markets, and the world markets.
The problems of segregated minority communities, that we have paid insufficient attention to for so long,–the problems of credit denial—denial of prime credit in these neighborhoods—even in middle class minority neighborhoods—have now inescapably affected all Americans—and indeed the global financial system. There is an important historical lesson here.
The network of mutuality holds greater gravity in the 21st century as a result of the integration of financial markets and globalization.
Slide 19kuttynov14 Myths
There is a lot of misinformation floating around–claims are being made about how wonderful subprime lending really was. Scapegoats are being found. We need to examine these claims carefully. It is claimed that the CRA resulted in banks making unwise loans to minorities and in minority neighborhoods; and this is what has led to the current foreclosure crisis. (I am embarrassed even repeating this claim—even saying that “such a claim has been made,” because it is so patently false—it is almost laughable). Jack Kemp, a prominent Republican and a person who has been very active in the housing field, described this argument as “Nonsense.”
Let us briefly examine why the CRA was legislated. As I mentioned earlier, federal government institutions systematically discriminated against integrated and minority neighborhoods in the decades prior to this legislation—in the 1930s, 40s, 50s, and even in the 60s—even after the blatant discrimination in the written rules of some federal agencies had been outlawed through a series of court challenges and the FaHA. As a result, minority families and minority neighborhoods had been virtually excluded from the homeownership opportunities—federally subsidized homeownership—that so many white families had successfully availed of. Till 1965, 98 % of the 10 million homes that had received federal underwriting guarantees had been sold to white households. Redlining of minority neighborhoods went on for years, even after fair housing and fair lending laws were passed.
The CRA was aimed at correcting the existing inequities in access to credit. This is a very reasonable law, based on a simple principle: anywhere a federally insured bank or thrift receives deposits, it must make loans. Completely reasonable. Several studies conclude that most of the loans made under CRA were sound. CRA-loans were made in a more responsible way than other subprime loans. CRA-loans carried lower rates than other subprime loans, and they were less likely to end up securitized into the mortgage-backed securities that have now led to the financial crisis.
While the CRA has been around for more than 30 years, the predatory and abusive lending practices that are at the root of the current crisis started becoming widespread only about 12 years ago, reaching their peak in the early- to mid-2000s.
In fact, a great majority of subprime loans were made outside the purview of CRA. The CRA covers only certain types of financial institutions – banks.
Mortgage brokers and a majority of home mortgage lenders are not within its scope of purview.
Who are the main players in the subprime market? They are the mortgage brokers, mortgage companies and the Wall Street investment banks that provided the financing. These are not within the purview of CRA. Finance company affiliates of major banks were also active in the subprime market. But many banks shifted their most risky lending to their affiliates precisely to escape CRA-scrutiny and compliance with CRA-requirements.
As Michael Barr testified this year before the House Committee on Financial Services, 50% of subprime loans were made by mortgage service companies not subject to comprehensive federal supervision; and another 30% were made by affiliates of banks or thrifts which are not subject to routine supervision or examinations. It is the non-CRA-covered lenders that drove the growth in subprime lending. The subprime lending sector was virtually unregulated. And that is precisely the problem.
If the government had taken steps to ensure that communities of color had adequate access to prime-rate mortgage finance, then the abusive lenders would not have been able to engage in risky practices in these markets. After 2000, the enforcement of the CRA became very weak. And that is precisely the period when the most risky lending took place. Indeed, if the CRA had been better enforced, much of the abusive lending could have been prevented, and the foreclosure crisis would not have occurred.
It is clear that the CRA is not responsible for the current foreclosure crisis.
In my opinion, there are some problems with CRA — and those problems are that CRA does not cover enough financial institutions, and the regulators have been all too willing to hand out satisfactory ratings to lenders—even when they have not done enough to expand lending to historically underserved communities. Those are the problems with CRA—not that the CRA caused the current foreclosure crisis. In fact, if these deficiencies of the CRA are overcome—the ones I just mentioned, we would have affordable, sustainable loans being made in historically underserved communities, so that people in these communities would not have any need to even talk to a subprime predatory operator.
Let us examine a second claim that is being made:
that subprime mortgages were a great homeownership opportunity for Americans, and that minorities in particular were able to raise their homeownership rates because of subprime lending.
A Center for Responsible Lending study (report titled “Subprime Lending is a Drain on Home Ownership”(March 2007) demonstrates through analysis of data from 1998 to 2006 that subprime mortgages have not increased homeownership in America, instead they will have led to a net loss in homeownership. Since 1998, only about 10% of these loans were made to first-time homebuyers, the remaining were to people who already owned a home. These people were lured into subprime refinances. A majority of the subprime loans are for refinancing existing mortgages. Prior to the refinance, these households held mortgages that they were able to pay, and could have gone on paying till the remaining term of the mortgage. But they were targeted through aggressive marketing tactics to get subprime refinances that were often on abusive terms—this is the classic predatory subprime lending. Refinancing of an existing mortgage does not add to the homeownership rate—they were already homeowners.
This study found that between 1998 and 2006, only about 1.4 million first-time home buyers purchased their homes using subprime loans. The Center for Responsible Lending estimates that for loans made till the end of 2006, there will be 2.4 million subprime foreclosures (projected). The net result is that subprime loans made during 1998-2006 have led or will lead to a net loss of homeownership for almost one million families.
And what about minority homeownership?
A claim has been made that subprime mortgages were the best thing that happened to prospective homebuyers in the minority community—that these mortgages added to minority homeownership. Again, it is seen that these mortgages resulted in a net drain on minority homeownership. The Center for Responsible Lending estimates that in 2005, about 51,000 subprime mortgages were sold to African American first-time homebuyers. This is out of about 500,000 total subprime mortgages to African Americans that year. Of these subprime mortgages, 98,000 are expected to go into foreclosure – now you have a gain of 51,000 and a loss of 98,000 — giving a net loss of 47,000 African American homeowners. It is a similar picture for Latino homeownership—for Latinos there is a net loss of about 38,000 for subprime mortgages originated in 2005.
So the evidence shows that subprime lending was a net drain on homeownership—on general homeownership and on minority homeownership. More people have lost homes than gained homes as a result of subprime lending.
Another claim is that it was the affordable housing goals of Fannie Mae and Freddie Mac that led to this crisis.
This is not true. For one thing, the affordable housing goals set by HUD for these GSEs were not very demanding. Second, the Clinton administration discouraged Fannie and Freddie from buying predatory subprime loans. It was investment banks and brokerage companies that led the growth of subprime mortgage-backed securities, not Fannie and Freddie.
However, from around 2005, Fannie and Freddie felt the pressure from their shareholders and Board of Directors to recover the securitization market share they had lost to unregulated investment banks. From 2005 to 2008, Fannie Mae purchased or guaranteed $270 billion in loans to risky borrowers — three times the amount in all its earlier years combined. Again, this behavior of the GSEs was driven by the profit motive of shareholders and not by the affordable housing goals set in the 1990s or by the Community Reinvestment Act of 1977.
In my opinion, Fannie and Freddie did feed the housing price bubble—this was the result of their success in increasing the flow of capital for mortgage finance through securitization. Questions have been raised about whether these GSEs practiced due diligence on the matter of appraisals of property. They have now entered into an agreement with the New York State Attorney General to work only with lenders who use independent appraisers. According to U.S. Senator Schumer, “This settlement represents one of the first major blows against the types of predatory lending that were so prevalent in the mortgage business of the last few years. Appraisal fraud has left millions of Americans unable to afford their homes and has created a drag on the American economy.”
I believe we need to ensure that the same due diligence is also exercised by Fannie and Freddie with respect to fair lending. I shall talk more about this later.
If we are looking for culprits in the current economic crisis—the culprits are the decades of housing and lending discrimination that led to the exponential growth in abusive subprime loans, the lack of adequate regulations in this sector, the failure to enforce existing consumer protection laws, the 2000-law which ensured that credit default swaps would remain unregulated, the SEC’s 2004-decision to allow the largest brokerage firms to borrow more than 30 times their capital, the unchecked close relations between rating agencies and companies packaging mortgages and selling securities, and the SEC’s failure to oversee the brokerage firms as they got further invested into subprime debt. These are the culprits, not the ones that are being made scapegoats of in this crisis.
One salient lesson from the foreclosure crisis is that the type of mortgage matters. Risky mortgage products contributed to current problems of delinquencies and foreclosures.
Homeowners were steered to subprime loans even when they qualified for prime loans. It is the abusive features of the subprime mortgages that have led to delinquencies and foreclosures. Many of these same families would be able to sustain homeownership—make regular mortgage payments—if they had a fair mortgage product.
According to a study done by the Wall Street Journal last year, more than half the subprime borrowers in its study had good enough credit to qualify for prime loans. This study found that in 2005 (for example), 55% of the subprime mortgages were obtained by homeowners who had high enough credit scores to qualify for prime credit. Previous studies by Freddie Mac and Fannie Mae also showed that significant proportions of their subprime mortgage holders would have qualified for prime credit.
A new study by the Center for Community Capital of the University of North Carolina has shown that when families are provided with a sound mortgage product (and by that I mean a product without abusive subprime features), they can make their mortgage payments regularly and face little risk of foreclosure.
This national study tracked two large groups of home mortgage borrowers – both groups had similar risk profiles, most of them would not have qualified for prime credit. The first group, on their own, got subprime loans; and the second group (the experimental group) was given prime fixed-rate loans through a program funded by the Ford Foundation to help banks serve low-income families. Although both groups had similar financial background and the same ability to pay, the first group that had loans with features like prepayment penalties, variable interest rates and other subprime features was four times more likely to fail than the second group that got prime loans. This clearly suggests that it is the abusive features which is the chief problem, and not so much the families who find themselves in these situations. This study concluded that for similar borrowers (that is, borrowers with roughly the same risk profile), subprime loans, ARMs, loans with prepayment penalties, and loans originated by brokers–all have significantly higher risks of failure than prime-type fixed rate loans made under community lending programs.
Fair housing and fair lending enforcement has never more important than at the present time.
As I mentioned earlier, a climate has now been created—in the midst of the foreclosure crisis and financial crisis—that somehow it is lending to historically underserved groups that is the cause of this crisis. That these are inherently risky borrowers. This misconception is near the germ of truth, and that is what makes it so dangerous. The truth is that it is the predatory lending targeted at minorities which is at the root of the problem. It is not risky borrowers, it is risky mortgages, deceptive practices, and risky leveraging by financial institutions that is the cause of this crisis. We can understand this problem well only by examining the period of redlining which preceded this reverse redlining. In the present climate, all minority borrowers and all minority neighborhoods are going to be erroneously seen as risky propositions. This is also a time of credit scarcity. Combine these two together, and you get a high likelihood of discrimination against minorities. Again, the discrimination will take new and varied forms. It may take forms that makes it difficult to pin down as discrimination, to prosecute in a court of law. These are the challenges of the future. We must rely on tried and tested methods like fair housing and lending audits and also be on the lookout for new methods of detecting discrimination where it exists, and ending it.
Fair housing and fair lending are areas of policy that have strong bipartisan support. In this post-ideological era (as it is being called), it should be possible to find strong political support for fair housing and fair lending.
A number of misconceptions need to be cleared. And the public, legislators and the government bureaucracy needs to be educated about the continuing salience of fair housing/fair lending enforcement; and the high cost of neglecting fair housing —of allowing discrimination to persist.
It is important to create an understanding about how widespread discriminatory practices really are. And testing is one important way of doing this. Testing should also examine the behavior of any steering of borrowers who qualify for prime credit to subprime loans.
Tomorrow, the first global financial summit is being held in Washington DC. Will anyone attending it talk about segregation in America, about redlining, reverse redlining? Will anyone talk about the needlessly perilous journey to homeownership for minority families in America? Although it is reverse redlining which is responsible for the proliferation of subprime mortgages—and recently, even prime mortgages with subprime-like features. And it is precisely these risky mortgage products that are responsible for a majority of the foreclosures—the high-cost mortgages, the teaser rates that reset to exorbitant rates, the Option ARMs, the Alt-A mortgages. These products were piloted in minority communities in America, in neighborhoods that had suffered from decades of redlining—discrimination in mortgage markets. Will this remain a hidden story?
Slide 20kuttynov14 Dr. King –Jericho Road
“A true revolution of values will soon cause us to question the fairness and justice of many of our past and present policies. On the one hand we are called to play the Good Samaritan on life’s roadside, but that will be only an initial act. One day we must come to see that the whole Jericho Road must be transformed so that men and women will not be constantly beaten and robbed as they make their journey on life’s highway. True compassion is more than flinging a coin to a beggar. It comes to see that an edifice which produces beggars needs restructuring.”
These are profound words of great relevance to all areas of policy—particularly our economic policies. If we apply them to the present context of policies in response to the housing market problems we are facing—we can see that in addition to playing the Good Samaritan through the loan modification programs, the FHA refinances, and other programs to provide relief to homeowners at risk, it is necessary to transform the entire housing market—the process of homebuying, housing search, obtaining a mortgage, home insurance, the broker fees, appraisals, etc. to make sure that homebuyers are not beaten and robbed as they make their way to homeownership, which after all, remains a cherished part of the American dream. And eliminating discrimination is an important part of the transformation that is needed.
We need better enforcement—more testing. I recommend mandatory testing for lenders and market areas served by Fannie Mae, Freddie Mac, FHA and VA. These institutions must be themselves assured and assure the American public that the mortgages they purchase in the secondary market or insure are fair mortgages—that is, they were obtained by homebuyers from non-discriminating lenders. And what is the best way this assurance can be provided? I think fair lending audits is the best way. This should be a part of the due diligence that these institutions are expected to undertake. In addition, underwriting criteria and other practices of lenders can be examined to ensure that they are not discriminatory. The HMDA data is also an important tool for detecting lending discrimination. These data need to be strengthened and made more useful for fair lending enforcement. Let former and current judges weigh in on what data are required to prove discrimination where it exists—let them clearly outline the standard of proof; and then, let the government collect precisely those types of information on loans and lending practices. The infrastructure for fair lending enforcement needs to be strengthened. We have to play hardball here. The alternative is playing patty-cake, which is what seems to be going on.
Fair lending audits are important because they catch discrimination “in the act.” It is definitely not sufficient for lenders to identify themselves as fair lenders. Or for them to not have race explicitly mentioned in their loan approval criteria. As alluded to earlier, much of discrimination is carried out through unwritten agreements and practices.
We need to ask our policy makers: are we serious about fair housing and fair lending? Are these to be merely platitudes and an espousal of good intentions? Do we say that lenders should practice fair lending “whenever possible” or “if not too inconvenient,” or “most of the time,” or “when liquidity is readily available?” No; the law is clear—it requires fair lending always—in each and every transaction, and at all stages of the transaction. And the same goes for fair housing too.
Enforcing fair housing is an important tool in transforming the whole Jericho Road to decent and affordable housing.
In 1787, one of the declared objectives for establishing the U.S. Constitution was “to form a more perfect Union.” The journey towards perfection has been a long one. Enforcing fair housing and fair lending, ensuring equal access to housing and credit markets for all Americans is an important component of the perfection we seek. We cannot have America default on its promissory note to the nation—the note promises equal protection of the law for all Americans, and this includes consumer protection laws, and the housing and lending laws. I am confident that America will deliver on that promise—the efforts of people in this room, in the government, in courts, in community organizations and ordinary citizens will ensure that discrimination will end. Our prosperity depends on it. The healthy functioning of housing markets depends on it. The healthy functioning of financial markets and the global economy depends on it. We need fair housing for a prosperous America. Let that be our slogan: Fair Housing for a Prosperous America.
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