IDEAS home Printed from https://ideas.repec.org/a/kap/jfsres/v54y2018i3d10.1007_s10693-017-0274-5.html
   My bibliography  Save this article

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

Author

Listed:
  • Brent C Smith
  • Kenneth N. Daniels

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.

Suggested Citation

  • Brent C Smith & Kenneth N. Daniels, 2018. "Unintended Consequences of Risk Based Pricing: Racial Differences in Mortgage Costs," Journal of Financial Services Research, Springer;Western Finance Association, vol. 54(3), pages 323-343, December.
    • Handle: RePEc:kap:jfsres:v:54:y:2018:i:3:d:10.1007_s10693-017-0274-5
    DOI: 10.1007/s10693-017-0274-5
    as

    Download full text from publisher

    File URL: http://link.springer.com/10.1007/s10693-017-0274-5
    File Function: Abstract
    Download Restriction: Access to the full text of the articles in this series is restricted.
    File URL: https://libkey.io/10.1007/s10693-017-0274-5?utm_source=ideas
    LibKey link: if access is restricted and if your library uses this service, LibKey will redirect you to where you can use your library subscription to access this item
    ---><---

    As the access to this document is restricted, you may want to search for a different version of it.

    References listed on IDEAS

    as
    1. LaLonde, Robert J, 1986. "Evaluating the Econometric Evaluations of Training Programs with Experimental Data," American Economic Review, American Economic Association, vol. 76(4), pages 604-620, September.
    2. James Kau & Donald Keenan & Henry Munneke, 2012. "Racial Discrimination and Mortgage Lending," The Journal of Real Estate Finance and Economics, Springer, vol. 45(2), pages 289-304, August.
    3. David Horne, 1997. "Mortgage Lending, Race, and Model Specification," Journal of Financial Services Research, Springer;Western Finance Association, vol. 11(1), pages 43-68, February.
    4. Keith Kuester & Stefan Mittnik & Marc S. Paolella, 2006. "Value-at-Risk Prediction: A Comparison of Alternative Strategies," Journal of Financial Econometrics, Oxford University Press, vol. 4(1), pages 53-89.
    5. Marsha J. Courchane & Brian J. Surette & Peter M. Zorn, 2004. "Subprime Borrowers: Mortgage Transitions and Outcomes," The Journal of Real Estate Finance and Economics, Springer, vol. 29(4), pages 365-392, December.
    6. Raphael W. Bostic & Kwan Ok Lee, 2008. "Mortgages, Risk, and Homeownership among Low- and Moderate-Income Families," American Economic Review, American Economic Association, vol. 98(2), pages 310-314, May.
    7. Petra E. Todd & Jeffrey A. Smith, 2001. "Reconciling Conflicting Evidence on the Performance of Propensity-Score Matching Methods," American Economic Review, American Economic Association, vol. 91(2), pages 112-118, May.
    8. Robert F. Phillips & Robert P. Trost & Anthony M.J. Yezer, 1994. "Bias in estimates of discrimination and default in mortgage lending: the effects of simultaneity and self-selection," Proceedings, Federal Reserve Bank of Philadelphia, pages 197-222.
    9. Ambrose, Brent W & Buttimer, Richard J, Jr, 2000. "Embedded Options in the Mortgage Contract," The Journal of Real Estate Finance and Economics, Springer, vol. 21(2), pages 95-111, September.
    10. James B. Kau & Taewon Kim, 1994. "Waiting to Default: The Value of Delay," Real Estate Economics, American Real Estate and Urban Economics Association, vol. 22(3), pages 539-551, September.
    11. N. Edward Coulson & Daniel P. McMillen, 2007. "The Dynamics of Intraurban Quantile House Price Indexes," Urban Studies, Urban Studies Journal Limited, vol. 44(8), pages 1517-1537, July.
    12. Liang Peng & Thomas Thibodeau, 2013. "Risk Segmentation of American Homes: Evidence from Denver," Real Estate Economics, American Real Estate and Urban Economics Association, vol. 41(3), pages 569-599, September.
    13. Pedro Santa‐Clara & Rossen Valkanov, 2003. "The Presidential Puzzle: Political Cycles and the Stock Market," Journal of Finance, American Finance Association, vol. 58(5), pages 1841-1872, October.
    14. Berkovec, James A & Canner, Glenn B. & Gabriel, Stuart A. & Hannan, Timothy H., 1994. "Race, Redlining, and Residential Mortgage Loan Performance," The Journal of Real Estate Finance and Economics, Springer, vol. 9(3), pages 263-294, November.
    15. Paul S. Calem & Kevin Gillen & Susan Wachter, 2004. "The Neighborhood Distribution of Subprime Mortgage Lending," The Journal of Real Estate Finance and Economics, Springer, vol. 29(4), pages 393-410, December.
    16. Michael LaCour-Little & Jing Yang, 2013. "Taking the Lie Out of Liar Loans: The Effect of Reduced Documentation on the Performance and Pricing of Alt-A and Subprime Mortgages," Journal of Real Estate Research, American Real Estate Society, vol. 35(4), pages 507-554.
    17. Christopher Mayer & Karen Pence & Shane M. Sherlund, 2009. "The Rise in Mortgage Defaults," Journal of Economic Perspectives, American Economic Association, vol. 23(1), pages 27-50, Winter.
    18. Munnell, Alicia H. & Geoffrey M. B. Tootell & Lynn E. Browne & James McEneaney, 1996. "Mortgage Lending in Boston: Interpreting HMDA Data," American Economic Review, American Economic Association, vol. 86(1), pages 25-53, March.
    19. Heckman, J.J. & Hotz, V.J., 1988. "Choosing Among Alternative Nonexperimental Methods For Estimating The Impact Of Social Programs: The Case Of Manpower Training," University of Chicago - Economics Research Center 88-12, Chicago - Economics Research Center.
    20. Wayne Archer & Brent Smith, 2013. "Residential Mortgage Default: The Roles of House Price Volatility, Euphoria and the Borrower’s Put Option," The Journal of Real Estate Finance and Economics, Springer, vol. 46(2), pages 355-378, February.
    21. von Furstenberg, George M & Green, R Jeffery, 1974. "Home Mortgage Delinquencies: A Cohort Analysis," Journal of Finance, American Finance Association, vol. 29(5), pages 1545-1548, December.
    22. William C. Gruben & Jonathan A. Neuberger & Ronald H. Schmidt, 1990. "Imperfect information and the Community Reinvestment Act," Economic Review, Federal Reserve Bank of San Francisco, issue Sum, pages 27-46.
    23. Raphael Bostic, 2003. "A Test of Cultural Affinity in Home Mortgage Lending," Journal of Financial Services Research, Springer;Western Finance Association, vol. 23(2), pages 89-112, April.
    24. Daniel P. McMillen & Paul Thorsnes, 2006. "Housing Renovations and the Quantile Repeat-Sales Price Index," Real Estate Economics, American Real Estate and Urban Economics Association, vol. 34(4), pages 567-584, December.
    25. Koenker, Roger W & Bassett, Gilbert, Jr, 1978. "Regression Quantiles," Econometrica, Econometric Society, vol. 46(1), pages 33-50, January.
    26. James B. Kau & Donald C. Keenan & Taewon Kim, 1993. "Transaction Costs, Suboptimal Termination and Default Probabilities," Real Estate Economics, American Real Estate and Urban Economics Association, vol. 21(3), pages 247-263, September.
    27. Stanley D. Longhofer & Stephen R. Peters, 2005. "Self-Selection and Discrimination in Credit Markets," Real Estate Economics, American Real Estate and Urban Economics Association, vol. 33(2), pages 237-268, June.
    28. Susanne Cannon & Norman G. Miller & Gurupdesh S. Pandher, 2006. "Risk and Return in the U.S. Housing Market: A Cross-Sectional Asset-Pricing Approach," Real Estate Economics, American Real Estate and Urban Economics Association, vol. 34(4), pages 519-552, December.
    29. Alex O. Williams & William Beranek & James Kenkel, 1974. "Default Risk in Urban Mortgages: A Pittsburgh Prototype Analysis," Real Estate Economics, American Real Estate and Urban Economics Association, vol. 2(2), pages 101-112, June.
    30. Blanchard, Lloyd & Zhao, Bo & Yinger, John, 2008. "Do lenders discriminate against minority and woman entrepreneurs?," Journal of Urban Economics, Elsevier, vol. 63(2), pages 467-497, March.
    31. Hunter, William C & Walker, Mary Beth, 1996. "The Cultural Affinity Hypothesis and Mortgage Lending Decisions," The Journal of Real Estate Finance and Economics, Springer, vol. 13(1), pages 57-70, July.
    32. Calem, Paul S, 1996. "Mortgage Credit Availability in Low- and Moderate-Income Minority Neighborhoods: Are Information Externalities Critical?," The Journal of Real Estate Finance and Economics, Springer, vol. 13(1), pages 71-89, July.
    33. John M. Griffin & Gonzalo Maturana, 2016. "Editor's Choice Who Facilitated Misreporting in Securitized Loans?," The Review of Financial Studies, Society for Financial Studies, vol. 29(2), pages 384-419.
    34. HAROLD Black & M. Collins & Ken Cyree, 1997. "Do Black-Owned Banks Discriminate against Black Borrowers?," Journal of Financial Services Research, Springer;Western Finance Association, vol. 11(1), pages 189-204, February.
    Full references (including those not matched with items on IDEAS)

    Citations

    Citations are extracted by the CitEc Project, subscribe to its RSS feed for this item.
    as


    Cited by:

    1. Ken B. Cyree & Drew B. Winters, 2023. "Investigating bank lending discrimination in the US using CRA-rated banks’ HMDA loan data," Public Choice, Springer, vol. 197(3), pages 371-395, December.
    2. Begley, Jaclene & Fout, Hamilton & LaCour-Little, Michael & Mota, Nuno, 2020. "Home equity conversion mortgages: The secondary market investor experience," Journal of Housing Economics, Elsevier, vol. 47(C).

    Most related items

    These are the items that most often cite the same works as this one and are cited by the same works as this one.
    1. Song Han, 2011. "Creditor Learning and Discrimination in Lending," Journal of Financial Services Research, Springer;Western Finance Association, vol. 40(1), pages 1-27, October.
    2. Goodman, Allen C. & Smith, Brent C., 2010. "Residential mortgage default: Theory works and so does policy," Journal of Housing Economics, Elsevier, vol. 19(4), pages 280-294, December.
    3. Song Han, 2004. "Discrimination in Lending: Theory and Evidence," The Journal of Real Estate Finance and Economics, Springer, vol. 29(1), pages 5-46, July.
    4. Stephen L. Ross, 2005. "The Continuing Practice and Impact of Discrimination," Working papers 2005-19, University of Connecticut, Department of Economics, revised Jul 2006.
    5. Marsha J. Courchane & Stephen L. Ross, 2019. "Evidence and Actions on Mortgage Market Disparities: Research, Fair Lending Enforcement, and Consumer Protection," Housing Policy Debate, Taylor & Francis Journals, vol. 29(5), pages 769-794, September.
    6. Stanley D. Longhofer & Stephen R. Peters, 1998. "Self-selection and discrimination in credit markets," Working Papers (Old Series) 9809, Federal Reserve Bank of Cleveland.
    7. Yan Zhang, 2013. "Fair Lending Analysis of Mortgage Pricing: Does Underwriting Matter?," The Journal of Real Estate Finance and Economics, Springer, vol. 46(1), pages 131-151, January.
    8. Sergio Firpo, 2007. "Efficient Semiparametric Estimation of Quantile Treatment Effects," Econometrica, Econometric Society, vol. 75(1), pages 259-276, January.
    9. Chan, Sewin & Haughwout, Andrew & Tracy, Joseph, 2015. "How Mortgage Finance Affects the Urban Landscape," Handbook of Regional and Urban Economics, in: Gilles Duranton & J. V. Henderson & William C. Strange (ed.), Handbook of Regional and Urban Economics, edition 1, volume 5, chapter 0, pages 987-1045, Elsevier.
    10. Avery, Robert B. & Beeson, Patricia E. & Sniderman, Mark S., 1999. "Neighborhood Information and Home Mortgage Lending," Journal of Urban Economics, Elsevier, vol. 45(2), pages 287-310, March.
    11. Patrick Bayer & Fernando Ferreira & Stephen L. Ross, 2014. "Race, Ethnicity and High-Cost Mortgage Lending," NBER Working Papers 20762, National Bureau of Economic Research, Inc.
    12. Dawkins, Mark C., 2002. "Simultaneity bias in mortgage lending: A test of simultaneous equations models on bank-specific data," Journal of Banking & Finance, Elsevier, vol. 26(8), pages 1593-1613, August.
    13. Allen C. Goodman & Brent C. Smith, 2010. "Housing default: theory works and so does policy," Working Paper 10-10, Federal Reserve Bank of Richmond.
    14. Black, Harold A. & Robinson, Breck L. & Schweitzer, Robert L., 2001. "Comparing lending decisions of minority-owned and White-owned banks: Is there discrimination in mortgage lending?," Review of Financial Economics, Elsevier, vol. 10(1), pages 23-39.
    15. Smith, Brent C, 2011. "Stability in consumer credit scores: Level and direction of FICO score drift as a precursor to mortgage default and prepayment," Journal of Housing Economics, Elsevier, vol. 20(4), pages 285-298.
    16. Agier, Isabelle & Szafarz, Ariane, 2013. "Microfinance and Gender: Is There a Glass Ceiling on Loan Size?," World Development, Elsevier, vol. 42(C), pages 165-181.
    17. Song Han, 2001. "On the Economics of Discrimination in Credit Markets," Finance and Economics Discussion Series 2002-02, Board of Governors of the Federal Reserve System (U.S.).
    18. Harold A. Black & Breck L. Robinson & Robert L. Schweitzer, 2001. "Comparing lending decisions of minority‐owned and White‐owned banks," Review of Financial Economics, John Wiley & Sons, vol. 10(1), pages 23-39, March.
    19. Robert Phillips & Anthony Yezer, 1996. "Self-Selection and Tests for Bias and Risk in Mortgage Lending: Can You Price the Mortgage If You Don’t Know the Process?," Journal of Real Estate Research, Taylor & Francis Journals, vol. 11(1), pages 87-102, January.
    20. Douglas D. Evanoff & Lewis M. Segal, 1996. "CRA and fair lending regulations: resulting trends in mortgage lending," Economic Perspectives, Federal Reserve Bank of Chicago, vol. 20(Nov), pages 19-46.

    Corrections

    All material on this site has been provided by the respective publishers and authors. You can help correct errors and omissions. When requesting a correction, please mention this item's handle: RePEc:kap:jfsres:v:54:y:2018:i:3:d:10.1007_s10693-017-0274-5. See general information about how to correct material in RePEc.

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    If CitEc recognized a bibliographic reference but did not link an item in RePEc to it, you can help with this form .

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your RePEc Author Service profile, as there may be some citations waiting for confirmation.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: Sonal Shukla or Springer Nature Abstracting and Indexing (email available below). General contact details of provider: http://www.springer.com .

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.

    IDEAS is a RePEc service. RePEc uses bibliographic data supplied by the respective publishers.