Bear Stearns and the Boston Fed Used “Politically Correct Doublespeak” to Defend the Soundness of Mortgage-Backed Securities

Fannie and Freddie weren’t the only entities in Washington pushing for looser lending requirements. Government agencies of various kinds were pressuring lenders into making riskier loans in the name of “racial equality.” Not wanting to be on the wrong end of lawsuits demanding hundreds of millions in damages, these lenders did as they were told.

Charges of racial discrimination in lending helped spur this rush. In 1992, a study by the Federal Reserve Bank of Boston claimed to find evidence that even allowing for differences in creditworthiness, minority applicants were still getting mortgage loans at lower rates than whites. That study was widely hailed as definitive by those who wanted to believe its conclusions, that American banks were guilty of discrimination against blacks and Hispanics (though not against Asians, who got mortgage loans at even higher rates than whites), and should be forced to make credit more widely available to people in inner-city neighborhoods. Evidence later surfaced exposing the sloppiness of the study, and showing that no evidence of discrimination was found when errors in the data were corrected, but it was too late. The pressure groups had their bludgeon and intended to use it.

The Community Reinvestment Act (CRA), a Jimmy Carter-era law that was given new life by the Clinton administration, has received a great deal of attention and criticism since the housing bust began. That law opened banks up to crushing discrimination suits if they did not lend to minorities in numbers high enough to satisfy the authorities. But it wasn’t just the CRA that was pushing lower lending standards. It was the entire political establishment. And according to the University of Texas's Stan Liebowitz, one thing a scan of the housing literature from 1990 until 2006 will not yield is any suggestion that “perhaps these weaker lending standards that every government agency involved with housing tried to advance, that Congress tried to advance, that the presidency tried to advance, that the GSEs tried to advance-and with which the penitent banks initially went along and eventually supported with enthusiasm-might lead to high defaults, particularly if housing prices should stop rising.”

Shortly after its discrimination study was published, the Boston Fed also released a manual for banks on nondiscriminatory mortgage lending. It explained that banks would have trouble attracting business from minority customers if its lending criteria contained “arbitrary or unreasonable measures of creditworthiness.” We can safely assume that banks did not need to be told that “arbitrary or unreasonable measures of creditworthiness” were bad for the banking business. What the Boston Fed really meant, of course, was that the bank’s standards were clearly “arbitrary or unreasonable” if minority customers were not receiving a significant percentage of the bank's loans. The rest of the manual was filled with the same kind of politically correct doublespeak — about credit history, down payments, and traditional sources of income, all of which were presented as dispensable obstacles in the way of increased homeownership among society’s least advantaged.

Naturally, banks did what government regulators wanted them to do. “Banks began to loosen lending standards,” says Liebowitz. “And loosen and loosen, to the cheers of the politicians, regulators, and GSEs [Government-Sponsored Enterprises].” Bear Stearns, a major underwriter of mortgage-backed securities, argued for the soundness of these mortgages on the same Orwellian grounds as the Boston Fed. The credit rating of a borrower shouldn't be so important, their literature explained. “CRA loans do not fit neatly into the standard credit score framework.” And so on through the whole roster of traditional lending standards.

—Thomas E. Woods Jr., Meltdown: A Free-Market Look at Why the Stock Market Collapsed, the Economy Tanked, and Government Bailouts Will Make Things Worse (Washington, DC: Regnery Publishing, 2009), 17-18.