Advertisement

Unintended Consequences of Risk Based Pricing: Racial Differences in Mortgage Costs

  • Brent C Smith
  • Kenneth N. Daniels
Article

Abstract

The following analysis focuses on the role that risk pricing has had in the allocation and access to mortgage funds, specifically how it results in cost differences by race. Using a sample of fixed-rate first lien mortgages, we control for the risk characteristics of borrowers and assets. We find that borrowers with comparable credit quality experience significantly higher costs for mortgages in neighborhoods with a high density of minority households. Further, when the pricing differential is controlled for in a model of mortgage default, there is no support for neighborhood price differences. This finding illustrates a potential inequity that results from efficient/risk pricing in mortgage underwriting.

Keywords

Residential mortgage default Mortgage underwriting Consumer credit 

References

  1. Ambrose BW, Buttimer RJ (2000) Embedded options in the mortgage contract. J Real Est Finance Econ 21(2):95–111CrossRefGoogle Scholar
  2. Archer WR, Smith BC (2013) Residential mortgage default: the roles of house price volatility, euphoria and the borrower’s put option. J Real Est Finance Econ 46(2):355–378CrossRefGoogle Scholar
  3. Barnow B, Cain GG, Goldberger AS (1980) Issues in the analysis of selectivity bias. In: Stromsdorfer E, Farkas G (eds) Evaluation studies, vol 5. Sage, San Francisco, pp 42–59Google Scholar
  4. Barth JR, Cordes JJ, Yezer AMj (1979) Financial institution regulations, redlining and mortgage markets. The Regulation of Financial Institutions 21:101–143Google Scholar
  5. Benston GJ (1981) Mortgage redlining research: a review and critical analysis. J Bank Res 11:8–23Google Scholar
  6. Berkovec JA, Canner GB, Gabriel SA, Hannan TH (1994) Race, redlining, and residential mortgage loan performance. J Real Est Finance Econ 9(3):263–294CrossRefGoogle Scholar
  7. Black HA, Collins MC, Cyree KB (1997) Do black-owned banks discriminate against black borrowers? J Financ Serv Res 11(1–2):189–204CrossRefGoogle Scholar
  8. Blanchard L, Zhao B, Yinger J (2008) Do lenders discriminate against minority and woman entrepreneurs? J Urban Econ 63(2):467–497CrossRefGoogle Scholar
  9. Bostic RW (2003) A test of cultural affinity in home mortgage lending. J Financ Serv Res 23(2):89–112CrossRefGoogle Scholar
  10. Bostic RW, Lee KO (2008) Mortgage, risk, and homeownership among low-and moderate-income families. Amer Econ Rev 98(2):310–314CrossRefGoogle Scholar
  11. Cade BS, Noon BR (2003) A gentle introduction to quantile regression for ecologists. Frontiers Eco Environ 1(8):412–420CrossRefGoogle Scholar
  12. Calem PS (1996) Mortgage credit availability in low and moderate-income minority neighborhoods: are information externalities critical? J Real Est Finance Econ 13(1):71–89Google Scholar
  13. Calem PS, Gillen K, Wachter S (2004) The neighborhood distribution of subprime mortgage lending. J Real Est Finance Econ 29(4):393–410CrossRefGoogle Scholar
  14. Cannon S, Miller NG, Pandher GS (2006) Risk and return in the US housing market: a cross-sectional asset-pricing approach. Real Est Econ 34(4):519–552CrossRefGoogle Scholar
  15. Carillo P (2011) Testing for fraud in the residential mortgage market: how much did early-payment-defaults overpay for housing? J of Real Est Finance and Econ 47:36–64CrossRefGoogle Scholar
  16. Chen C (2005) An introduction to quantile regression and the Quantreg procedure. SUGI 30 Proceedings paper # 213–30. Cary: SAS Institute IncGoogle Scholar
  17. Coulson NE, McMillen DP (2007) The dynamics of intraurban quantile house price indexes. Urban Stud 44(8):1517–1537CrossRefGoogle Scholar
  18. Courchane MJ, Surette BJ, Zorn PM (2004) Subprime borrowers: mortgage transitions and outcomes. J Real Est Finance Econ 29(4):365–392CrossRefGoogle Scholar
  19. Crews-Cutts A, Van Order RA (2005) On the economics of subprime lending. J Real Est Finance Econ 30(2):167–196CrossRefGoogle Scholar
  20. Darolia R, Smith BC, Yezer AM (2016) Mortgage markets with rational applicants: theory, evidence, and research implications, working paperGoogle Scholar
  21. Dehejia R, Wahba S (1999) Causal effects in nonexperimental studies: reevaluating the evaluation of training programs. J Amer Statist Assoc 94(448):1053–1062CrossRefGoogle Scholar
  22. Deng Y, Gabriel S (2006) Are underserved borrowers lower risk? New evidence on the performance and pricing of FHA-insured mortgages. J of Money, Credit and Banking 38(6):1431–1460CrossRefGoogle Scholar
  23. Foster C, Van Order R (1984) An option-based model of mortgage default. Housing Finance Rev 3(4):351–372Google Scholar
  24. Griffin JM, Maturana G (2016) Who facilitated misreporting in securitized loans? Rev of Fin Studies 29(2):384–419CrossRefGoogle Scholar
  25. Gruben WC, Neuberger JA, Schmidt RH (1990) Imperfect information and the community reinvestment act. Federal Reserve Bank of San Francisco Economic Review, Summer:27–46Google Scholar
  26. Haughwout A, Mayer C, Tracy J (2009) Subprime mortgage pricing: the impact of race, ethnicity and gender on the cost of borrowing. In: Burtless G, Rothenberg Pack J (eds) Brookings papers on urban affairs. Brookings Institute, Washington, pp 33–64Google Scholar
  27. Heckman J, Hotz J (1989) Choosing among alternative nonexperimental methods for estimating the impact of social programs: the case of manpower training. J Amer Statist Assoc 84(408):862–874CrossRefGoogle Scholar
  28. Holmes MD (2000) Minority threat and police brutality: determinants of civil rights criminal complaints in US municipalities. Criminology 38(2):343–368CrossRefGoogle Scholar
  29. Horne DK (1997) Mortgage lending, race, and model specification. J Finance Serv Res 11(1):43–68CrossRefGoogle Scholar
  30. Hunter WC, Walker M-B (1996) The cultural affinity hypothesis and mortgage lending decisions. J Real Est Finance Econ 13(1):57–70Google Scholar
  31. Jackson WE III (1994) Discrimination in mortgage lending markets as rational economic behavior: theory, evidence, and public policy. In: Lashley ME, Jackson MN (eds) African Americans and the new policy consensus. Greenwood Press, New York, pp 157–178Google Scholar
  32. Karikari JA (2009) Neighborhood patterns of racial steering of subprime mortgage lending. Available at SSRN: http://ssrncom/abstract=1439854
  33. Kau JB, Kim T (1994) Waiting to default: the value of delay. Real Est Econ 22(3):539–551CrossRefGoogle Scholar
  34. Kau JB, Keenan DC, Kim T (1993) Transaction costs, suboptimal termination and default probabilities. Real Est Econ 21(3):247–263CrossRefGoogle Scholar
  35. Kau JB, Keenan DC, Munneke H (2012) Racial discrimination and mortgage lending. J Real Est Finance Econ 45(2):289–304CrossRefGoogle Scholar
  36. Koenker R, Bassett G Jr (1978) Regression quantiles. Econometrica 46(1):33–50CrossRefGoogle Scholar
  37. Kuester K, Mittnik S, Paolella MS (2006) Value-at-risk prediction: a comparison of alternative strategies. J Financ Economet 4(1):53–89CrossRefGoogle Scholar
  38. Lacour-Little M, Yang J (2013) Taking the lie out of liar loans: the effect of reduced documentation on the performance and pricing of alt-a and subprime mortgages. J of Real Est Research 35(4):507–553Google Scholar
  39. LaLonde R (1986) Evaluating the econometric evaluations of training programs with experimental data. Amer Econ Rev 76(4):604–620Google Scholar
  40. Longhofer SD, Peters SR (2005) Self-selection and discrimination in credit markets. Real Est Econ 33(2):237–268CrossRefGoogle Scholar
  41. Musulis RW (1982) Government intervention in the mortgage market: a study of anti-redlining regulations. J Monet Econ 10(2):193–213Google Scholar
  42. Mayer C, Pence K (2009) The rise in mortgage defaults. J Econ Persp 23(1):27–50CrossRefGoogle Scholar
  43. McMillen DP, Thorsnes P (2006) Housing renovations and the quantile repeat-sales price index. Real Est Econ 34(4):567–584CrossRefGoogle Scholar
  44. Munnell AH, Tootell GMB, Browne LE, McEneaney J (1996) Mortgage lending in Boston: interpreting HMDA data. Amer Econ Rev 86(1):25–53Google Scholar
  45. Peng L, Thibodeau T (2013) Risk segmentation of American homes: evidence from Denver. Real Est Econ 41(3):569–599CrossRefGoogle Scholar
  46. Rosenbaum P, Rubin D (1983) The central role of the propensity score in observational studies for causal effects. Biometrika 70(1):41–55CrossRefGoogle Scholar
  47. Santa-Clara P, Valkanov R (2003) The presidential puzzle: political cycles and the stock market. J Finance 58(5):1841–1872CrossRefGoogle Scholar
  48. Smith BC (2011) Competition and risk factors in mortgage lending: the Federal Housing Administration’s evolving role in the primary market. Econ Quar 97(1):95–110Google Scholar
  49. Smith JA, Todd PE (2001) Reconciling conflicting evidence on the performance of propensity-score matching methods. Amer Econ Rev 91(2):112–118CrossRefGoogle Scholar
  50. von Furstenberg GM, Green RJ (1974) Home mortgage delinquencies: a cohort analysis. J Finance 29(5):1545–1548CrossRefGoogle Scholar
  51. Williams AO, Beranek W, Kenkel J (1974) Default risk in urban mortgages: a Pittsburgh prototype analysis. Real Est Econ 2(2):101–112CrossRefGoogle Scholar
  52. Yezer AMJ, Phillips RF, Trost RP (1994) Bias in estimates of discrimination and default in mortgage lending: the effects of simultaneity and self-selection. J Real Est Finance Econ 9(3):197–215CrossRefGoogle Scholar

Copyright information

© Springer Science+Business Media New York 2017

Authors and Affiliations

  1. 1.RichmondUSA

Personalised recommendations