'On the Take': The Black Box of Credit Scoring and Mortgage Discrimination

Abstract

Subprime credit, a relatively new method of risk-based pricing, has been hailed as a way to open up markets and provide access to credit to those who would otherwise be excluded. Evidence suggests that subprime mortgage segmentation increases rather than reduces exclusionary practices in lending. Furthermore, what is unclear is how lenders determine who qualifies as a subprime borrower. This concern became manifested when studies demonstrated that minority borrowers, regardless of creditworthiness, are more likely to receive expensive, sub-prime loans. The disparity is properly attributed to lenders’ credit pricing policies which included discretionary increases despite the objectively-determined risk-based interest rate as well as minority borrowers’ search costs and asymmetric information about prices in this market. This Article reviews the theory and history of credit scoring in mortgage lending and argues that lenders’ practices arguably justified by "legitimate business need" as well as lenders’ credit scoring models exacerbate lending disparities. It argues that the failure of competitive forces to disallow these unjustified and illegal increases also speaks to regulatory failure. It proposes that lenders operating in noncompetitive subprime mortgage markets address how their practices interact with lending disparities even apart from their complicity in creating conditions that worsen economic disadvantage.