In The Color of Money and in the opening post of this Symposium, Mehrsa Baradaran challenges the notion that markets exist outside of political power. What she shows for credit policy, I have shown for housing policy, particularly in my book, Family Properties: How the Struggle over Race and Real Estate Transformed Chicago and Urban America. Here I’d like to discuss a shocking example of governmental policies shaping “markets,” or, rather, supporting investors to extract wealth from segregated black communities: the Housing and Urban Development (HUD) Act of 1968.
In 1968, after rebellions following Martin Luther King, Jr.’s assassination finally focused Congressional attention, two laws were passed to address the problem of “the ghetto.” First, the Fair Housing Act prohibited racial discrimination in the advertising, rental or sale of housing. It included no significant enforcement mechanism. Its solution to “ghetto” problems was to give those wealthy enough to move out the chance to do so. “Fair housing does not promise to end the ghetto,” one senator admitted, but simply enables “those who have the resources to escape the… suffocating…inner cities of America.”
In contrast, the HUD Act attempted to address conditions within “suffocating… inner cities.” It created mortgage subsidy programs to help “lower income families in acquiring homeownership.” It also reversed the workings of an earlier federal program that many felt had created ghettoes in the first place – the Federal Housing Administration (FHA)’s insured mortgage program. Starting in the mid-1930s, FHA-insured mortgages had been denied to black or racially changing urban neighborhoods, thereby encouraging conventional lenders to similarly “redline,” or refuse to issue mortgages, in such areas. In a major reversal, HUD specified that FHA-insured mortgage loans would be made in “older, declining urban areas.” Such areas need only be “reasonably viable” to qualify for FHA-insured loans.
The newly redirected FHA-insured mortgages were meant to spur the “resources…of private enterprise” to address the housing needs of “low income families.” The HUD programs never acknowledged that racial segregation was unjust or even problematic. Instead, they were built on the assumption that lending to blacks and Latinos was inherently risky. Those who needed protection were lenders, not borrowers. HUD programs cosseted lenders active in what were euphemistically referred to as “certain neighborhoods”— that is, black, Latino, and racially changing ones — in ways so extreme that they damaged the very communities they were ostensibly created to help.
The following discussion of how HUD programs set lenders up to succeed—and black and Latino borrowers to fail—draws on the work of Judith D. Feins, a policy analyst in 1970s Chicago, and on Family Properties. (For the most comprehensive account of these programs and their devastating effects, see Keeanga-Yamahtta Taylor’s forthcoming Race for Profit and the End of the Urban Crisis.)
First, lenders making FHA-insured loans could charge both the borrower and the seller “points” as a condition for making the loan. A point was 1% of the amount loaned. Mortgage bankers making FHA-insured loans often charged points of 8% or more – an immediate cash bonus for “originating” or making the loan. The larger the loan, the higher the value of the points – and inflating loan values was not difficult. Mortgage bankers worked closely with real estate agents who sought out run-down houses worth, say, $500. Then they bribed or convinced an appraiser to say the house was worth closer to $20,000. The appraisal then enabled the affiliated mortgage banker to make an FHA-guaranteed loan for $20,000. All that was needed was someone willing to buy the house.
Such people were easy to find, given the pent-up demand for housing among African Americans and Latinos. Real estate agents lured such buyers by emphasizing the small down payments rather than the property’s final price. They facilitated the mortgage application process, filling out paperwork, and, when necessary, falsifying information about the buyer’s income. Mortgage bankers accepted whatever was on the forms. They needed not look too closely, since the loan was fully insured. Moreover, most lenders immediately sold the loans – at a profit – to the secondary mortgage market (to the General National Mortgage Association, or Ginnie Mae, which the 1968 HUD bill created to purchase FHA-insured mortgages).
While the lender was insulated from loss, the opposite was true for the borrower. Already strained by paying inflated prices for often decrepit properties, HUD rules mandated that buyers receive no special forbearance when struggling to make payments. Lenders initiated foreclosure in cases of involuntary hardship, including illness, job loss, delay in social security payments, or even payments lost in the mail. They refused partial or late payments. They sometimes even exacerbated the situation to accelerate the foreclosure process. They did so because HUD regulations specified that lenders could collect payment on defaulted loans only if the property was vacant. As Judith Feins summarized in 1977, the mortgage insurance program was “thoroughly structured to benefit participating…lenders,” while ignoring the “impact of questionable practices on homeowners.”
Given the dangers, why would anyone apply for an FHA-insured mortgage? Buyers used FHA-insured mortgages when they lacked other choices. And it was blacks and Latinos — not “low and moderate income” people generally – who could not get conventional loans. Although plenty of conventional lenders were chartered to serve these exact urban neighborhoods, starting in the 1960s federal regulatory changes made it legal for them to keep their city offices while lending in distant suburban locations — or to close their city offices altogether and open instead in the (white) suburbs. Fein’s research showed that in Chicago, conventional lenders’ withdrawal was most pronounced in African American neighborhoods. In white areas, their flight occurred only where blacks were starting to move in.
With other lenders withdrawing, residents of black, Latino or racially changing areas were left to work with mortgage bankers using FHA-insured mortgage loans. Racial segregation was the system’s linchpin. It gave those making FHA-insured loans a captive market where they could set their own prices. Feins’s Chicago study provided powerful evidence that these loans were targeted on racial, not class grounds. It compared FHA lending in black and white working-class neighborhoods whose housing stock and populations were otherwise equivalent. It also compared two equivalent middle-class areas, one black and one white. Conventional lending continued in the two white areas, but fell dramatically in the two black neighborhoods. Taking advantage of new banking regulations that allowed them to do so, conventional lenders abandoned black communities, whatever their economic characteristics. FHA-insured lenders took their place.
In sum, the HUD Act of 1968 created a type of loan that provided no-risk profit for lenders while creating extreme vulnerability for buyers. The policy-sanctioned withdrawal of alternative sources of credit in black and Latino neighborhoods meant that lenders of FHA-insured mortgages operated in a non-competitive environment. Blacks and Latinos could now purchase property, but were routinely charged inflated prices. They could be foreclosed upon for one missed payment, with no legal recourse. Foreclosed or abandoned buildings depressed the value of surrounding properties. Neighborhood decline caused by foreclosures then undercut the financial benefits of home ownership.
As Feins’s analysis of the FHA-insured mortgage market revealed, governmental interventions ensured that even middle-class blacks were “climbing up a down escalator.” The roots of black and Latino community decline could be found in governmentally-created financial incentives “too complicated to be widely understood.” The white population, sheltered from such practices and oblivious to the fact that the mortgage market had been rigged, could only conclude that these particular “low- and moderate-income people” had destroyed their own communities. In a vicious circle, racist myths deformed governmental policy, and were further reinforced by those policies’ damaging results. Meanwhile the entire ugly process remained obscured by the very “market myths” that Baradaran describes.
[This post is part of a symposium on Mehrsa Baradaran’s The Color of Money. Read the complete symposium here.]