Fed Economists Assess Role of CRA in Financial Crisis

The Board of Governors of the Federal Reserve System (the "FRB") published a "Feds Note" by FRB economists Neil Bhutta and Daniel Ringo. The article assesses the role of the Community Reinvestment Act (the "CRA") in precipitating the growth in subprime lending that led to the financial crisis. While conceding that the CRA provided an incentive structure that could motivate banks to originate or purchase riskier loans, the economists concluded that the CRA did not contribute significantly to the crisis.

The economists noted that during the merger boom in the late 1990s, banks began promising "large dollar amounts of future lending for CRA purposes." However, these commitments lacked an enforcement mechanism, may not have represented increased lending and were not necessarily high risk, which led the economists to conclude that such increased commitments are not sufficient evidence to support a link between the CRA and the growth of risky lending.

The economists went on to examine empirical studies, which suggested that: (i) just six percent of subprime loans in 2006 were "CRA-related," (ii) the delinquency rate for CRA-related loans was actually lower than the overall delinquency rate across all 2006 mortgages and (iii) the prospectuses of private-label subprime mortgage-backed securities ("MBS") did not reference CRA eligibility and few (if any) MBS pools met CRA qualifications.

See: Assessing the Community Reinvestment Act's Role in the Financial Crisis, by Neil Bhutta and Daniel Ringo.