"Lack of credit history should not be seen as a negative factor" Once Said the Boston Fed

by Don Boudreaux on September 28, 2008

in Current Affairs, Financial Markets, Government Intervention, Myths and Fallacies, Politics, Reality Is Not Optional, Regulation

Jeff Jacoby writes great good sense in today’s Boston Globe.

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{ 24 comments }

T L Holaday September 28, 2008 at 1:43 pm

For the record, you applaud as "great good sense" the equation of "minority" with "no credit history."

DRDR September 28, 2008 at 3:13 pm

People should look at the context of the quote before making judgment: http://www.bos.frb.org/commdev/commaff/closingt.pdf

This is the NCRC response: http://www.ncrc.org/index.php?option=com_content&task=view&id=353&Itemid=80

DRDR September 28, 2008 at 3:19 pm

Also, Stan Liebowitz had a more detailed criticism in the NY Post a few months ago: http://www.nypost.com/seven/02052008/postopinion/opedcolumnists/the_real_scandal_243911.htm?page=0

Per Kurowski September 28, 2008 at 4:05 pm

And I absolutely concur, with the title of this post! "Lack of credit history should not (necessarily) be seen as a negative factor"

To me it is incredible how in a country where sort of everyone fights discrimination on sort of anything often to the extent of pure silliness you allow discrimination based on non-transparently calculated ratings numbers.

In fact, as I see it, lack of credit history should quite often be seen as a very positive factor.

T L Holaday September 28, 2008 at 4:16 pm

Bainbridge provides some data here.

Cafe Hayek does not embarrass so easily.

Babinich September 28, 2008 at 7:54 pm

There is plenty of blame to go around from broker to lenders but I get the greatest kick from those in government riding in to our aid.

Funny, these caped heroes fail to mention that they too have a large part of the blame in all of this.

http://www.city-journal.org/html/10_1_the_trillion_dollar.html

muirgeo September 28, 2008 at 8:21 pm

This is just getting pretty rediculous.

Community Reinvestment Act May Have Deterred Risky Mortgage Lending

Specifically, the Traiger & Hinckley LLP study found that:

— CRA Banks were 66 percent less likely than other lenders to
originate a high cost loan;

— The average high cost loan made by CRA Banks was priced 68
basis points lower than the average high cost loan originated
by other lenders;

— CRA Banks were more than twice as likely as other lenders to
hold originated loans in their portfolio; and

— The higher a metropolitan area's concentration of bank
branches, the lower its foreclosure rate.

The data is here.

Also banks are failing in Great Britain… they have no CRA equivalent.

Making this argument for the cause of the financial mess while not looking at the repeal of Glass Stegall and the passage of The Commodity Futures Modernization Act of 2000 and ignoring the effects of CDO's is not based on any rational analysis of the facts. It's simply attempting to prop up an ideology that is flawed.

This was a market failure based on removal of regulations and oversight.

T L Holaday September 28, 2008 at 10:01 pm

muirgeo, Don doesn't need data, because he has something much better: doctrine.

Hans Luftner September 28, 2008 at 10:03 pm

In fact, as I see it, lack of credit history should quite often be seen as a very positive factor.

I used to think that. But on the other hand, why should a mortgage lender trust lending $70,000 to someone who hasn't demonstrated that he's responsible enough to pay back $70?

I can totally see how someone without a history of any credit would be seen as more of a risk than someone with a positive credit history.

happyjuggler0 September 28, 2008 at 10:16 pm

Per Kurowski,

It is one thing to say that lack of credit history by itself shouldn't preclude one from getting a mortgage loan. It is another thing entirely to say that it shouldn't be seen as a negative factor to be looked at along with all other available factors.

Perhaps if today was in the 1960's I might argue differently with regard to minorities who might previously have been shut out of all credit markets. But we aren't in the 60's, we are in an era where US bankers as a group only care about the color green, and could care less about black or white or some other color.

Rudy September 28, 2008 at 11:42 pm

Muir – Did you know, too, the moon landing was a hoax? Check it out!!
http://science.nasa.gov/headlines/y2001/ast23Feb_2.htm

Per Kurowski September 29, 2008 at 5:14 am

happyjuggler0 says “we aren't in the 60's, we are in an era where US bankers as a group only care about the color green, and could care less about black or white or some other color.”

Right and so those who have no credit history might in fact be showing good character resisting the thousands of offers of easy but very expensive financing that if accepted could have drowned them.

Currently one of the biggest drags on the US economy is consumer debt… so why should we look down at those with no credit history?

Hammer September 29, 2008 at 9:03 am

I could be wrong here, but I am fairly certain that more than credit card use goes into credit history. Things like renting an apartment, paying utility bills and a handful of other contractual things where you pay over a period of time all contribute to your report.
Like I said, I could be wrong about this, but I recall my sister coming out of college without any credit history to speak of due to never having a bill or lease in her name, while I had one since I did.

I personally would be very leery of lending a big pile of money to someone who had never engaged in any sort of commerce of that sort. It would be like buying something really expensive off eBay from a seller with zero ratings. It might work out, but I would either take a PILE of percautions, or just walk away from the deal. Most likely the latter.

dave smith September 29, 2008 at 9:11 am

Anyone who thinks it's a good idea to lend money to those who have no record of payment history could start their own bank…

But please don't do it with my money.

muirgeo September 29, 2008 at 9:18 am

OK so if we want to talk about credit history. I think we can all agree the aggregate credit score of Wall Street must now be something like 299.

To loan any money to them now or in the future would be like a sub-sub-subprime loan. WE should here and now state that the US government will make it illegal for any of its treasury money to be loaned or in any other way included in any product that Wall Street comes up with.

There should be a simple law that states there are private financial products backed up only by the money of private people. Then there will products and loans backed up by the US Treasury and used only by institutions that agree to the conditions set forth for them to participate in their use.

If any banker , lobbyist , lawyer or politicians suggest some sort of mixing of the two systems they shall be deemed guilty of a federal crime punishable by public stoning.

Problem solved!

vidyohs September 29, 2008 at 10:17 am

This talk about credit history is one that I find illogical at a deep level.

Number one, encouraging young people to "establish credit" as one of the first acts of adulthood sends the wrong message about how to live a fruitful life and prosper. Work, save, pay cash, and obtain complete independency by those means is the message we should send, teach, and encourage; we should be demanding it of our children as well practicing it ourselves.

I know that is a pipe dream long drifted away in fantasy smoke, but recovery has to begin somewhere.

Number two, I can not understand the logic of a lender who will not lend to a person with a clean slate and lots of recommendations or testimonials about his/her ability to honor an obligation; yet that same lender will lend to someone who has established a track record of dishonor simply because there is a record.

I liken it to the stupidity of Major sports owners/general managers who will fire a coach/manager whose teams are under performing even though that poor performance can be obviously laid at the feet of the players; and then these same owners/general managers will hire an unemployed coach who has an established history of never having lead a winning team instead of giving the good prospect the chance because the good prospect has no "history". They dump losers to hire losers and hope things will get better (when it obviously won't) rather than accept the risk of presenting opportunity to the unproven but potentially good coach.

It's the kind of deficient thinking that produces so many of the formula movies we see come out of Hollywood.

The way I see it, it is less riskier for a bank to lend to an unproven customer than a known bad customer because a bank can lose no more on an unproven customer than on a known bad one. With the unproven customer the bank at least has expectations that the loan will turn out good whereas with the known bad one there is no such expectation, it becomes simply a matter of when the default occurs not if it occurs.

So I have to support Per Kurowski on this one.

happyjuggler0 September 29, 2008 at 10:53 am

Per Kurowski,

One of the smartest things one can do is pay for almost everything with credit cards, so long as you pay it all off each month. It works out to a zero interest loan for a month or so, month after month, year after year.

Personally I'd be more willing, all else being equal, to lend a huge sum of money to purchase a house to someone with that kind of history than to one who paid untraceable cash for purchases his entire (so far) life. How about you? If you agree, then lack of credit history is a negative.

If you can't manage to pay back credit card debt on time each month, why should I think you are creditworthy?

vidyohs September 29, 2008 at 11:58 am

happyjugglerO,

If one is going to use credit cards then that method is reasonable, more than that it is wise (the only way).

We have credit care in my wife's name that is used very infrequently and specifically for ordering things on-line or for local purchases to support my business but always in amounts that can be paid off when the bill comes due. The gold or platinum credit card is also extremely wise to have and use when one travels out of country on vacation or extended business. The credit card companies (I am sure you all know this) always gets a better exchange rate then you will and they also cover the insurance expenses when you rent a car. When we travel we have a budget, set aside the money for that budget, and when the bill comes due, pay it off in one lump sum. I still feel even that exposes us to risk, but it is risk we are willing to gamble on at the time.

I suppose that using credit is just a matter of how much risk one is willing to take.

Not being able to predict the future means that even your method leaves a person exposed to risk that could become financially catostrophic should unforseen (most of 'em are) events play against you.

Is lack of credit history as much as, or more than, a problem as lack of "good" credit history?

If I as a banker were faced with a man that had no credit history but in possession of a honorable reputation and recommendations, I would loan to him before I would to someone whose well established history showed patterns of problems and abuse.

Wegman September 29, 2008 at 1:08 pm

Does anyone know what data would support or refute the claim by Dean Baker of The American Prospect that:

Fannie and Freddie got into subprime junk and helped fuel the housing bubble, but they were trailing the irrational exuberance of the private sector. They lost market share in the years 2002-2007, as the volume of private issue mortgage backed securities exploded.

In short, while Fannie and Freddie were completely irresponsible in their lending practices, the claim that they were responsible for the financial disaster is absurd on its face — kind of like the claim that the earth is flat. Free market conservatives know that the claim that Fannie and Freddie were responsible is ridiculous.

Hans Luftner September 29, 2008 at 1:30 pm

I spent virtually all of my adult life avoiding credit. Cash on the barrel head. If you don't have the money in your pocket, you can't afford to buy it. It's how I was raised. It's how my kids will be raised.

But when the time came for me for get a mortgage I found my credit rating was low. How can that be? I was the paragon of financial responsibility! But without any credit history, lenders couldn't know if I could handle debt. How would they know?

If you never need credit, you don't ever need to have the credit agencies judge you one way or another. But if you ever decide, for whatever reason, that getting a loan is a good idea, then I can hardly fault anyone for wanting to see some record of past performance.

However, if a lender trusts someone with a bad history more than someone with no history at all, well that's just foolish. But It's their money to foolishly lend. That is, until the government get involved, but that's a different argument entirely.

muirgeo September 29, 2008 at 2:25 pm

One of the smartest things one can do is pay for almost everything with credit cards, so long as you pay it all off each month. It works out to a zero interest loan for a month or so, month after month, year after year.

Posted by: happyjuggler0

You would think that but retailers are all paying the cost of using credit cards. It's basically a hidden fee the credit card industry doesn't want you to know about that the retailer passes on to every one else. Call it a corporate sales tax we all pay for and they add to their bottom line.

I'm switching my money to a local credit union and will use a debit card that doesn't cost the retailer anything… I think.. I need to find out if that's how they work.

muirgeo September 29, 2008 at 2:30 pm

Free market conservatives know that the claim that Fannie and Freddie were responsible is ridiculous.

Posted by: Wegman

Sure it's ridiculous but they have their ideological backs to the wall. The will say anything to defend themselves.

Britain is having a similar collapse of its housing market and banking institutions and they have no CRA equivalent and no Fannie and Freddie equivalent.

Per Kurowski September 29, 2008 at 4:47 pm

But when the time came for me for get a mortgage I found my credit rating was low. How can that be? I was the paragon of financial responsibility! But without any credit history, lenders couldn't know if I could handle debt. How would they know?
Posted by: Hans Luftner | Sep 29, 2008 1:30:27 PM

Like bankers used to do before banking was reduced to follow a number!

Actually it is not a credit rating you get it is a rating of how much business you have generated for your financiers… like accumulative airline miles!

I have seen people here in the US so completely obsessed with the credit score it is unbelievable. You have been able to hook much of your society to a quite mind-boggling addiction. Do no tell me who you are or what you studied, tell me your score. Dear, why do we not bring our credit scores together and build a family? When is it too early to start building up your children’s credit score?

happyjuggler0 September 29, 2008 at 9:07 pm

muirgeo,

You are correct that retailers pass on the cost of credit card transactions to their customers. But they still charge you the same whether or not you use a card or pay cash. May as well use the credit card and pay it off each month.

That said, the gas station nearest my home offers two different prices for each grade of gas. One is for cash, and the other is for credit, with the cash price ten cents cheaper. I pay cash there.

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