The wave of evictions caused by the coronavirus could swamp even the massive dislocation caused by the collapse of the US housing bubble more than a decade ago.
As pandemic-driven unemployment leaves people unable to pay their bills, some experts fear evictions could more than double compared to the last crisis, with 20 to 28 million people potentially forced from their homes. Corelogic, the financial data service, has made a baseline forecast that some three million homeowners will fall behind on their mortgage payments—and their pessimistic forecast predicts more than 12 million delinquent borrowers.
And we have a good idea of who will bear the brunt of this dislocation: Communities of color. After the US housing bubble popped in 2007, African American and Latino homeowners were more than twice as likely as whites to be delinquent on mortgage payments and enter foreclosure.
Researchers say this isn’t explained by differences in income, but rather differences in the kind of financial products these communities are offered, which disproportionately include features that can turn loans into vehicles of exploitation.
Part of the US response to the last recession was the creation of the Consumer Financial Protection Bureau. It was conceived of in 2007 by then-Harvard law professor Elizabeth Warren as the financial equivalent of the Federal Trade Commission, blocking dangerous loans the same way the FTC might ban a short-circuiting toaster.
As the US enters another recession, this agency faces a deadline to finalize the rules that make home loans safer. If they don’t act, many new borrowers—equal to 16% of recipients of home loans made in 2018—could be left without safe credit.
But under president Donald Trump, the CFPB is considering a change that some fair lending advocates say leaves future borrowers open to exploitation, essentially forgetting the lessons of the financial crisis.
In the midst of a housing crisis and a national reckoning with systemic racism, the CFPB’s final decision could exacerbate both problems.
A home for wealth
Tearing down Confederate statues is a good start, but the real fight for racial equity starts at the wealth gap.
In the United States today, the average white family is ten times wealthier than the average Black or Hispanic family. A major reason is that American wealth building often takes place through homeownership, in turn made possible by government policies that support long-term, low-interest loans for buyers.
That support, inaugurated by the creation of the Federal Housing Administration during the New Deal of the 1930s, had unequal treatment baked in from the beginning. Borrowers from neighborhoods with high concentrations of minorities were denied loans, and “redlining” continued in various official and unofficial guises for decades to come.
Today, the effects linger: 72% of white Americans own their own homes, while just 42% of Black Americans do, the largest gap between the two communities in the last five decades. That gap matters not just in the present, but in the future, since home equity is a major source of intra-generational wealth for Americans.
Even in the 21st century, the type of loans offered to borrowers of different racial backgrounds has major impact. A 2011 Center for Responsible Lending study found that in the run-up to the financial crisis, Black and Hispanic borrowers who had good credit ratings received subprime loans more than three times as often as creditworthy white borrowers.
This was a reality even among wealthy individuals, with the same study finding that “10 percent of higher-income African-American borrowers and 15 percent of higher-income Latino borrowers have lost their home to foreclosure, compared with 4.6 percent of higher income non-Hispanic white borrowers.”
CFPB Agonistes
Analysis like this led Warren and other advocates to call for a regulator focused on consumers, not financial institutions. Creating it was a brutal political battle, pitting bank lobbyists against reformers, with president Barack Obama’s economic advisers caught in the middle. It went into business in 2011; almost nine years later, its legacy is mixed.
“In the first five years of its existence, I would argue that the CFPB was on the right track, in terms of informing the American people and protecting consumers,” Hilary Shelton, the director of the NAACP’s Washington bureau, testified in 2019 (pdf). “Today, unfortunately, the CFPB is but a shell of its former, vibrant, self.”
Consumer advocates say that instead of writing rules to protect consumers, Trump’s CFPB has made it easier for them to be ripped off. For example, Trump appointees exempted auto loans from CFPB regulations even as predatory car loans are on the rise. They repealed another rule that wold have prohibited forced arbitration, when companies take consumers to private courts to settle disputes. Just this month, the Trump CFPB gutted rules that would have required payday lenders to make basic creditworthiness checks before issuing loans with interest rates as high as 400%.
The difference is a question of presidential priorities. During the Obama administration, the CFPB took twelve actions to enforce fair lending laws; under Trump, it has taken just three. Mick Mulvaney, a Trump advisor appointed to be acting director of the CFPB, removed enforcement authority from the bureau’s Office of Fair Lending. That office’s then-director had previously said most hate crimes were hoaxes and questioned whether the use of racial slurs, specifically the n-word, could be considered racism.
In this year’s presidential campaign, Trump has made his rejection of antiracist lending policy even more explicit. The president is pushing to end a Department of Housing and Urban Development rule, enacted under Obama but never enforced, that would reward cities and states that adopt policies to integrate segregated neighborhoods. Trump claims the rule would allow his rival, former vice president Joe Biden, to “destroy your neighborhood”—a barely veiled attempt to generate racially motivated fear.
Who qualifies?
Right now, the CFPB is considering a rule that outlines what kind of underwriting banks must do for home loans to be considered “qualified mortgages.” For consumers, qualified mortgages come with important protections—they must be for 30 years or less, have fees limited to 3% of the total loan, and cannot have predatory features like negative amortization or balloon payments.
Banks want to deal with these “qualified mortgages” because they are protected from legal challenges and are easier to package as securities that can be re-sold, particularly to Government-sponsored Entities (GSEs) that purchase home loans, Fannie Mae and Freddie Mac. These institutions, originally quasi-private, were effectively nationalized during the financial crisis and, along with the Federal Housing Administration and the Veterans Administration, ultimately finance the bulk of American home loans.
As regulators developed the original QM rule, they sought a measure to determine if borrowers could repay a debt. They settled on requiring them to pay 43% or less of their monthly income to service debts after obtaining their mortgage. But the gap between slow-growing incomes and rising housing prices left many borrowers unable to meet that standard. And the single metric can miss other indicators of creditworthiness, like savings or the source of the debt—a physician may be loaded with student loans after medical school, but also has a lucrative career ahead of them.
Regulators solved this problem with something called “the GSE patch,” which allowed the GSEs to set their own repayment standards for the next seven years; it expires in January 2021. If the patch expires without any action, these government agencies will have to start obeying the 43% debt-to-income (DTI) rule. That would also mean they could not make or purchase a significant share of the home loans they do now—some 16% of 2018 mortgage loans were only eligible as qualified mortgages because of the patch.
If those loans aren’t made next year, it could leave borrowers without credit, or only able to obtain it on dangerous terms. Many of those borrowers, researchers say, are likely people of color.
How to patch a patch
“The real challenge here is to find a balance between access to credit and preventing predatory mortgage lending,” Alys Cohen, an attorney at the National Consumer Law Center, tells Quartz. “We need a new way to determine affordability and we need to make sure it doesn’t perpetuate historical discrimination.”
The CFPB has proposed a new rule that would replace the debt-to-income ratio with a rubric based instead on the spread between a benchmark rate and the price of the loan. Rather than look at the borrower, it simply says that any loan within 2 percentage points of the average prime mortgage rate meets the standard. Cohen says this one-size-fits-all approach shouldn’t replace individual analysis of a borrower. “You’ve removed the connection to the ability to repay rule, and you are providing absolute legal insulation to predictably unaffordable loans,” she warns.
Other consumer advocates say a price-based rule could work, with modifications. Eric Stein, a senior vice president at the community lender Self Help and former Obama administration Treasury official, argues that the price of a loan is closely correlated with the borrower’s ability to pay, so the new QM rule will leave borrowers facing about the same risk as before. As important, the ban on exotic mortgages and unduly high fees, thought to be responsible for about half the defaults in the last crisis, will still apply broadly across the market.
Broad availability matters because “there aren’t many leveraged investments available to low-income families,” Stein says. He cites research that shows families of color have higher rent burdens than white people, making homeownership even more important. While the Center for Responsible Lending, Self Help’s public policy arm, is still preparing their response to the proposed rule issued in June, Stein says that the 2-percentage-point threshold should be modestly expanded.
The subtext of the debate over the QM rule is intimately tied to the future of the government-backed lenders. Some financiers and Republicans argue they should be privatized because as public entities they take business away from banks. Pushing them to use the same mortgage standards would be a step in this direction. Meanwhile, some consumer advocates argue their effective subsidy should be made explicit, with the entities regulated like utilities. Untangling the complex web of government support for the home market is confounding on a good day, and Cohen argues that opening that box during a pandemic and recession is bad timing.
A model lender
The CFPB’s initial promise was to regulate into existence a suite of “safe” financial products. Like all regulatory agencies, its mission has become complicated by the industry it regulates, which spends millions to lobby for more advantageous treatment. The CFPB was designed to be as independent as possible, with funding coming directly from the Federal Reserve and a director who could only be fired for cause. A recent Supreme Court decision now says the director serves at the pleasure of the president, which will allow whoever is in the White House to decide what constitutes predatory lending.
In truth, this was already more or less the case—after Richard Cordray, the last director appointed by Obama, resigned, the Trump administration was effectively able to put in place its own director. Financial reformers hoped the CFPB would be an institutional home for consumer concerns among the constellation of agencies largely focused on big banks, but now it is likely to reflect whatever political views prevail in the White House. Just as the Office of the Comptroller of Currency shelved lending discrimination probes under Trump, so too could the CFPB.
A different way forward may be through government-provided basic financial services, whether through the format of postal banking or at the Federal Reserve. Mehrsa Baradaran, a law professor at the University of California, Irvine is the author of the 2019 book The Color of Money, an examination of the racial wealth gap. She argues that trying to create incentives for banks to fix what is effectively a public policy problem just isn’t effective.
“Banks are going to do it weirdly and weird things are going to happen,” she says. “We are doing all this public support, just cut the banks out as the middleman. If the [Federal Housing Agency] is going to guarantee it or if the [Department of Energy] is going to give you the metrics for the loan, then just send it directly.”
Another issue is whether the gradual approach of generational asset building can close a yawning wealth gap, built over centuries, at any reasonable speed. Baradaran says a problem with regulating consumer loans, even predatory ones, is that people need credit, “and there is a demand because people don’t make enough money.”
“I’m a big proponent of reparations,” she says. “I see it as just paying damages.”