The federal bank agencies are considering significant changes to the regulations implementing the Community Reinvestment Act, a 1977 law requiring banks to meet the credit needs of low- and moderate-income communities. The agencies will likely issue formal proposals and ask for comments more than once over the next year.
The rules are complicated, and subtle changes could have sweeping consequences for millions of Americans and impact tens of billions of dollars annually in lending, investments and services in low- and moderate-income communities across the nation. Adjustments to CRA could help more Americans become home and business owners; or enable lenders to ignore communities of color, minorities and entire neighborhoods.
There’s already one detail that’s likely to be central to the fight over CRA. It’s something policy makers call the one ratio.
The one ratio would consist of the dollar amount of a bank’s CRA activities (loans, investments, and services to low- and moderate-income people) divided by the bank’s assets or “Tier One” capital. The ratio is supposed to reflect CRA effort compared to a bank’s capacity. The ratio would influence a bank’s CRA rating. Think of it this way: the same level of effort or dollar amount of CRA activities would not earn a bank with a larger amount of resources the same CRA rating as a bank with a smaller amount of resources.
Joseph Otting, the Comptroller of the Currency, has promoted the one ratio as a means to inject more certainty and clarity into CRA exams. The idea behind the one ratio is that it will immediately signal to banks whether they are in compliance with CRA and can reasonably expect to pass their next CRA exam.
This may all sound enticing and exciting if it is possible to boil down a complicated law to a simple ratio. The Comptroller is thinking about safety and soundness exams that calculate capital ratios and result in ratings. However, before we breathlessly apply this concept to CRA, we must pause and remember the purpose of the law.
The CRA statute reminds us that banks “have continuing and affirmative obligations to help meet the credit needs of the local communities in which they are chartered.” The key word is local. One ratio cannot tell an examiner, a bank, or a member of the public how responsive a bank is to its various service areas. Current CRA exams ensure banks are responsive to local needs by establishing assessment areas where branches take deposits. CRA exams scrutinize to what extent a bank makes loans and investments and supports services to low- and moderate-income people and communities in its various assessment areas.
When reaching conclusions about performance, exams also assess to what extent a bank responds to different needs in its assessment areas. For instance, preserving affordable housing is a priority need in a metropolitan area experiencing rapid housing price increases whereas financing small businesses and job creation is a priority need for a metropolitan area with high unemployment. If a bank does well in job creation initiatives in the high unemployment metro area, but not so well in financing affordable housing in the expensive metro area, it would probably receive higher marks for its performance in the area with high unemployment than the expensive area. The exam then tallies performance across assessment areas to develop an overall rating. Differences in responsiveness to needs therefore gets factored in exams with assessment areas.
In contrast, exams featuring just the one ratio would not conduct needs analyses across assessment areas and would therefore overlook whether banks are responding adequately to the different needs. Moreover, an exam focused on the one ratio would not be effective in considering public input regarding local needs and how well banks respond to them. There is no better way to determine if banks are fulfilling their responsibilities under CRA than to listen carefully to local residents. The one ratio-centered exam, in short, could very well violate the intent and purpose of CRA to require banks to respond to local needs.
Regulators working on the one ratio plan have suggested that the ratio could be adjusted to provide more weight to activities that are particularly responsive to distressed communities with high needs for credit. For instance, an investment of $1 million in a distressed community can be weighted by a factor of two, meaning it will count for $2 million in the numerator of the ratio. While this may sound appealing, consider how complicated and subjective it would be to do this weighting for banks, particularly large banks, which serve upwards 20 states and hundreds of counties.
The other downside is that generous and frequent weighting (multiplying loans and investments by 2 or more) could easily result in half or less the dollar amount of loans and investments. The current system, while not perfect, can better adjust for responsiveness by weighting the importance of performance in each assessment area, including distressed areas. This avoids crude outcomes like one half the number of loans and investments equaling the same ratio due to weighting.
Another shortfall of the one ratio is that banks are likely to find the easiest loans and investments to undertake regardless of how well they respond to needs. They will search for lowest risk and highest yield. They will search for larger dollar loans and investments to bump up their numerator. Instead of working closely with community groups and other stakeholders to meet needs in assessment areas, the banks will be mostly engaged in a mathematical exercise to increase their numerator.
Regulators working on the plan are aware of this possible gaming behavior and say that while the one ratio could be featured on exams, the agencies can still use assessment areas. But they seem to emphasize weights in ratio calculations, which suggests diminished importance of assessment areas. Let’s be clear. NCRC is not opposed to metrics or ratios on exams, but we are opposed to one metric like the one ratio being determinative of the score on CRA exams.
CRA has successfully leveraged large amounts of loans and investments that are still responsive to local needs. While updates are needed such as also establishing assessment areas where large amounts of loans occur but where a bank does not have branches, a radical restructure of exams that overlooks or diminishes local areas and community group input is counter to the intent of the law. It’s exactly the wrong way to go.
The stakes are high. CRA is not as well-known as the Affordable Care Act, Net Neutrality, the Endangered Species Act or other laws. We need to increase public awareness and involvement in this critical community reinvestment law. Our neighborhoods depend on our involvement.
You can find more background and how to join the movement to modernize and strengthen the law at NCRC’s #TreasureCRA campaign hub.
Photo by Roman Mager via Upsplash
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