Although the rules implementing the Community Reinvestment Act suggest a recognition by the four regulatory agencies that different institutions must be permitted to fill different niches within the same marketplace, a disproportionate number of poor ratings are being given out by the Office of Thrift Supervision.

The results call into question whether a form of market share testing has found its way into the CRA examination process.

Mirroring a trend spanning several years, in the first half of 1996, OTS-regulated institutions were considerably more likely to receive "needs to improve" or "substantial noncompliance" CRA ratings than their banking brethren regulated by the Federal Reserve, the Federal Deposit Insurance Corp., or the Office of the Comptroller of the Currency.

Closer investigation reveals that such ratings are not spread evenly throughout the country, but are heavily concentrated among thrifts in California: Of poor ratings issued by the OTS, 58% were given by its western region office. Furthermore, of the CRA ratings issued in California by all four regulatory agencies for this same period, all of the poor ratings were issued by the OTS.

Why is it that thrifts in the Golden State have established themselves as consistently among the worst CRA performers, while those in other states with similar challenges of ethnic diversity, or which serve as gateways to new immigrants, enjoy only a fraction of the number of negative ratings?

Research points to the OTS western region's use of what might be construed as market share testing of lenders' performance, despite such tests not being permitted as a benchmark under the "old" CRA, and their being in direct contradiction with both the letter and spirit of the new regulation.

(CRA rules were revamped in April 1994 to focus on an institution's performance, not how much paperwork it did. The new regulation kicked in Jan. 1 for small banks. Large banks have until July 1997 to comply.)

A review of poor CRA ratings and the reasons for them raises questions as to whether the OTS western region is engaging in a form of de facto credit allocation.

Two major reasons emerge for California thrifts' poor CRA showings:

*Institutions have intentionally curtailed lending activities merely to survive, prompted by the serious decline in Southern California real estate values in recent years.

*Many Asian banks exhibit poor records of lending to non-Asian minorities and whites.

Yet a number of CRA public performance evaluations reflect that OTS western region examiners have given poor ratings to institutions that have purposely cut back on lending for safety and soundness reasons, on the basis that their volume of lending is not on par with other thrifts in the region.

Such evaluations frequently make reference to an institution's being in a given "percentile as compared to peers of similar size," or to lending levels that are "compared to the peer group median."

However, discussions with compliance examiners from other agencies, in combination with the public record of poor CRA exam results for 1996, suggest that OTS western region examiners place far more weight on peer group data in arriving at CRA ratings than their regulatory agency counterparts.

Asian thrifts have found compliance with the CRA to be especially perplexing. Most are located in communities that have become Asian enclaves, and are very outwardly Asian in their signage and appearance. Many were hailed at the time of their formation for stepping into the gap by providing credit to a previously underserved group, and have played key roles in helping recent immigrants from countries like Cambodia, Vietnam, and Laos assimilate into the California market.

These institutions' identities are difficult to mask, which accounts for why their percentage of lending to Asian borrowers frequently exceeds 80%, or even 90% of total applicants. And yet, many such institutions are left with the distinct impression that the masking of their identity is exactly what the OTS western region expects of them, through its application of the CRA examination process and suggestions by examiners that they hire non- Asian, bilingual Spanish-speaking loan agents.

Frequently these Asian institutions set about doing what they think the examiners want them to, or what they can only hope will successfully lead to more applications. Despite significant investments of time and money, however, yet another "needs to improve" CRA rating is given because the percentage of applications, by race, does not approximate the demographics of the institution's delineated community or assessment area. Or the OTS deems that a thrift's percentage of lending is unacceptably low within its defined CRA community, often due to customers who live far away deliberately seeking out the services of the thrift because of its cultural sensitivity and/or language abilities.

Despite OTS examiners making the determination that these institutions' CRA performance "needs to improve" relative to meeting community credit needs, it should be noted that rarely, if ever, do these thrifts receive written comments from the public complaining of their lending practices. Furthermore, the examiners themselves often conclude that "our examination did not identify any violations of nondiscrimination laws or regulations."

Against this backdrop, is it beneficial to encourage Asian thrifts to significantly alter their customer base from that which they have historically served so well?

Still, based on its track record of giving out poor CRA ratings, it appears that the OTS western region fully expects Asian institutions to step into line with all others, irrespective of whether it makes business sense to expect all lenders to start mirroring the marketplace and, hence, each other's performance.

And, here again, there are those who question whether this begins to take on the tone of market share testing and, by extension, of de facto credit allocation.

Comparing one lender's performance against the aggregate performance of all lenders in a given market area is not a bad thing if appropriately balanced with other factors. But the concept of market share testing was struck from the 1993 CRA proposal for good reason, namely a fear among institutions that, if inappropriately applied, it would effectively become a form of credit allocation.

And the perception that a regulator is issuing poor CRA ratings on the basis of inappropriate standards could force undercapitalized lenders to overextend themselves, and could push niche players into the mainstream market. Neither outcome would serve the industry nor consumers well.

For these reasons, the OTS western region should bring its examination procedures into the fold alongside its three federal regulatory agency counterparts, and with the remainder of its own agency.

Doing so will further serve to strengthen its credibility among the institutions it regulates, encourage thrifts to continue to service unique and previously underserved niches, and ultimately, preserve the integrity of the CRA examination process.

Mr. Baker is a director in Deloitte & Touche's financial institutions advisory services group in Sacramento.

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