Discrimination in Mortgage Lending Markets as Rational Economic Behavior: Theory, Evidence, and Public Policy1
William E. Jackson III
Recent studies by respected government agencies reveal a significant disparity in the treatment of blacks and whites in major credit markets. In particular, blacks are much less likely to receive mortgage loans in today's financial markets. Many decry this disparity as simply another symbol of racism in America. Although these claims may be true in some general sense, they do not add any light (only heat) to the search for proper public policy responses. The search for a response to this disparity must begin with a clean and concise analysis of the causes of discrimination in credit markets. Only then can a reasonable response be crafted to address this market failure. In this chapter, a simple model of mortgage lending that may help us to understand discrimination in credit markets is developed and tested. Basic economics of information theory are used, and discrimination is assumed to be a rational economic response to a difference in the cost of obtaining information about loan applicants.
The basic model is derived from the classic "credit rationing in imperfect information markets" framework developed by Stiglitz and Weiss ( 1981,