Definition
A lender that discriminates against borrowers from certain demographic groups or undesirable neighborhoods has engaged in redlining.
Analysis
Redlining was practiced by many lenders seeking to reduce risk in their loan portfolios. Since borrowers from certain neighborhoods had higher default rates, they decided to deny all new loan applications in those areas.
These decisions to deny credit ignored the creditworthiness and other qualifications of the applicants. While the practice may have appeared sound on paper, in effect it was discriminatory and adversely affected mostly minority populations that dominated those neighborhoods.
While redlining is currently illegal in modern times, it ironically was established by the federal government in the mid-1930s in response to the financial hardship caused by the Great Depression. Lenders followed “residential security maps” that served to restrict mortgage lending only to those who lived in more prosperous neighborhoods. Inner-city areas and other neighborhoods inhabited by minorities were left out of mortgage lending as banks followed the restrictive guidelines established by the Federal Housing Authority (FHA).
When the Fair Housing Act of 1968 was passed, redlining was banned in cases where the decisions were based on demographic criteria, such as race, family status or disability. In 1977, the Community Reinvestment Act removed geographic barriers by requiring banks to apply the same lending standards to borrowers in all neighborhoods.
In modern times, forms of redlining still exist from certain lenders. Some credit card issuers have penalized cardholders who have made purchases or charges from questionable establishments.
Privacy advocates cried fowl when American Express began slashing credit limits on accounts where the cardholder made charges indicative of high-risk behavior. In many of these cases, the cardholder showed no economic signs of financial distress and maintained the proper payment history. Instead, it was deemed that their purchasing choices were common for other consumers with higher rates of default.
