Dissatisfied with FRB Chairman Powell’s recent recognition that the pandemic has wreaked extra-excruciating havoc with communities of color, Senate Banking Ranking Member Brown demanded Tuesday that the Fed take positive and institutional action not just to talk about systemic racism, but also to end it. Clearly flustered, Chairman Powell said he’d have to talk to his colleagues, reiterating later in the hearing that much remains for fiscal – not monetary – policy-makers. Chairwoman Waters pursued a similar, if gentler, line the following day in the House. While it’s of course true that the Fed isn’t omnipotent, Sen. Brown and Chairwoman Waters are right: there’s a lot the Fed can do about systemic racism that isn’t just about issuing a new CRA proposal. This memo gives the Fed more than a few suggestions and, because it’s a long list, they follow in only bullet-point form:
- Root Out Regulatory Disparate Impact: Federal banking agencies are, or at least they should be, tough on discrimination judged by disparate impact when it comes to financial institutions. They can and should be at least as tough on themselves. The rulebook has an array of requirements that unintentionally but all too effectively discourages banks from making loans to lower-income and minority borrowers. Just one case in point is the assumption that subprime borrowers are high-risk borrowers. The more we study the 2008 mortgage meltdown, the more we know that this isn’t true. Risk was actually concentrated in higher-income borrowers who took out second liens, bought second homes, invested in residential property, or just tried their hand at flipping. It’s past time for a top-to-bottom review of risk-based capital rules to root out unintended, but extensive and pernicious, discrimination.
- Create Positive Incentives for Low-Balance Loans: It is a truth undeniable that it is more profitable to make big loans and big loans are most safely made to higher-income borrowers. Regulation should not just permit and encourage new techniques for extending low-balance loans, going beyond the new found acceptance of short-term, small-dollar loans born of the pandemic. They must also create positive incentives for other asset classes. One option might be to allow what I’ll call “internal securitization” – i.e., permitting a bank to make lots of little loans then packaged into a single instrument held on balance sheet with a favorable risk weighting reflecting its diversified risk profile. That way, a lot of little loans goes into one very big loan, with the cost of origination reduced by capital advantages combined with more efficient credit underwriting and loan administration.
- Promote New Charters: I won’t rehash my proposal for an Equality Bank other than to say that the Fed could make these happen a lot faster than I can. For example, it could lay out a new rulebook for bankers’ banks or other charters serving only lower-income households and very small businesses. It could also craft a favorable holding company charter that captures the advantages of the “public corporation” charter available in many states that would be ideal vehicles for equality-essential finance.
- Speed Retail Payments: The Fed on the one hand thinks faster payments are a national necessity and on the other will take about a decade from thought to deed bringing one to market. Private-sector solutions are essential – one might be to allow nonbanks to access Fed payments now if they post sterile reserves against transaction balances and agree to abide by all of the liability, servicing, and accountability rules governing banks.
- Ensure that “Banking While Black” is Bearable: The New York Times yesterday recounted tales of the obstacles facing those attempting to conduct banking while black. This isn’t just bad business, it’s illegal in spirit if not necessarily also in literally-read law. Even so, it’s more often social media than regulators that punish banks for calling the cops on black clients trying to do little more than cash a check. That banking while black is different than banking while purple hasn’t been punished with the force or prominence necessary to ensure that all customer-facing people know that they must treat all consumers with dignity and care or there will be most unpleasant consequences. New guidance giving banks some certainty as to regulatory expectations would be a help, as with supervisory “mystery shopping” to make sure it matters.
- Affirmatively Enable Equality-Essential Lending and Investment: CRA has its uses, but unless or until more than a miniscule number of banks flunk it, the law is largely an incentive to do good only when banks want to expand or burnish their public image. There’s a lot more regulators can do to encourage community lending and investment. For example, they can and I think should expand the definition of eligible “public -welfare” investments and, for good measure, give them a capital break as long as holdings stay within a limit – say five percent — of capital. The same can easily be done for community-focused lending – give banks a list of equality-enhancing loans and the terms on which they may be extended and then give banks a risk-based break for aggregate portfolios within size limits — ten percent of capital, for example. The larger the bank, the bigger the benefit of these safe-harbor activities, perhaps creating new loan categories suitable for securitization that then promotes still more lending for even greater benefit.
- Cleaning Up Corporate Culture: After 2008, the Federal Reserve Bank of New York was the majorette in a parade of efforts to improve corporate culture across the banking industry. Given its time and place, much of this focused on tying compensation to safety and soundness via tools such as deferred compensation. Little if any of the cultural edicts specified a commitment also to diversity and inclusion, terms that I think must go well beyond thinking about race to remember women – still largely huddled under the glass ceiling – and persons with disabilities – mostly out in the corporate cold. Wells Fargo just took a landmark step, linking senior-level compensation to diversity with what sounds like a tough definition thereof. Now that the Fed has established corporate culture as a supervisory concern, it should ensure that rigorous attention turns to full representation of all groups in a well-performing banking organization.
- Construct Liquidity Facilities for Those Who Need Them the Most: The Fed’s view continues to be that saving markets ensures macroeconomic recovery even though we have seen over the past decade that saving markets enriches the wealthy, precipitates asset-price bubbles, stokes moral hazard, and does nothing for those who need it the most. The Fed’s 2020 facilities have skirted or even violated 13(3) for giant corporations and financial markets, but rigorously hewed to strict eligibility criteria for municipalities and non-profits. The Fed thus unintentionally but still effectively shut out majority-black municipalities in its first muni construct and even now bypasses many areas that need help. Many states and localities spent all too freely, but public life cannot continue without public services, with the most vulnerable among us at the greatest risk of municipal-debt crises. The Fed’s nominal request for comments on aid to non-profits also makes it clear that the Fed will support affluent foundations but leave biomedical researchers, community organizations, food pantries, child-welfare organizations, and many others to fend for themselves. These Fed facilities need a revamp and, a Family Financial Facility is also still a good and urgent Fed window.
- See a Troubled Place Where There Is One: Up to the moment the bottom fell out of the financial markets followed in short order by the macroeconomy in March, the Fed assured all that the economy was in a “good place.” It never was for anyone other than those with the most whose wealth had grown by record-breaking amounts since 2010 thanks in large part to Fed policy. Our EconomicEquality blog shows how employment was anything but “full” as the law in fact requires of the Fed nor were prices stable for low-, moderate-, and middle-income families facing unaffordable housing, education, health, and child-care costs. Interest rates stoked markets and impoverished households, most of whom were mired in high-cost debt and benefited not a whit from low interest rates. Had the Fed understood America as it is, it would have been able to pursue policies that restored shared prosperity, not wealth so unequal that, as of the last count, the one percent had more of it than the bottom 90%. Ground-up policy would have greatly benefited African-Americans since, as we noted recently, they are stuck in the economic mud.