I always say that as a teacher all I can provide are enthusiasm, some vocabulary and background about the topic at hand, and - most important - an understanding that there is conviction and truth on both sides of every issue.

The use of credit scoring in evaluating consumer loan requests illustrates this last point.

Credit scoring has come a long way from its initial, tentative use a couple decades ago. Today some top bankers reveal that where they work no human plays a role in evaluating requests for credit card lines and some consumer loans.

The data gathered on the applicant are put into the computer, along with the person's history as provided by one of the major credit bureaus. Then out comes a score, which determines whether the applicant is approved or rejected.

It is all automatic, in the same way that some giant colleges accept or deny applicants based solely on a total score reflecting class standing, SAT scores, and any other quantitative data felt to be relevant.

Similarly, it is like the professors (and I swear I am not one of them) who give all objective exams that are graded by computer, after which the computer looks at the curve determined by the professor and assigns letter grades to the students, too.

But if memory serves me correctly, credit scoring was not initially designed just to replace human decision-making with an electronic box.

Rather, it was meant also as marketing device to determine if the bank was missing good bets through overly strict credit evaluation. The feeling was that by looking at other parts of an individual's credit and financial history, one might determine whether that person would be a likely candidate to pay off the loan, no matter what a credit officer might feel in his gut.

Certain things became apparent quickly. If, for example, a person had a telephone for a number of years, it was a sign that he met his obligations. Someone who owned a home was considered more likely to repay debts than a renter. And years at the same location or in the same job meant a lot more as a sign of responsibility than did debts outstanding or spendable income.

The above obviously give good bases for lending decisions. But credit scoring allowed the banks to go further and see who would have been good for the loan, even though traditional bank lending policies would normally lead to a rejection.

To do this, the banks needed a new data base.

It is easy to look up the characteristics of those who have been given a loan but later defaulted - no phone, rapid job moves, etc. But obviously a bank has no data on those who would have paid off the loan but were not granted it in the first place.

So, what a few banks did was to grant a loan to every applicant during a given period of time (without announcing this to the public of course).

"Hubcap stealing. An unusual occupation, but the committee has granted your loan. Congratulations," might be the thoughts of the banker on approving all loans.

But when the experiment was over, the banks found that they had no worse loss experience on the loans granted than they normally would! In other words, many applicants were screening themselves. Feeling that the bank would reject them, they didn't even try to get a loan. And the banks lost good business to finance companies, loan sharks, and the like.

So some banks started placing ads in the paper with a scoring box. Example:

Fill in the box below.

If you have a phone, give yourself 10 points.

If you own a home, give yourself 20 points.

If you have a wife, subtract 15 points, ... and so on.

If you have 65 points or more, our bank will grant you a loan.

And I remember (I am not making this up) First Pennsylvania Bank added on its form: "Extra points for neatness on application."

This was the beginning. It allowed the banks to tap a lucrative market that was screening itself out of the lending pipeline. But it now has become an autonomous lending vehicle that eliminates the human factor altogether.

But is this good? Yes and no. Certainly credit scoring cuts the cost of consumer lending. And many bankers say they get better loan experience with credit scoring than they did with human evaluation.

But many bankers, especially from community banks, feel otherwise. They say that using credit bureau evaluation and history of jobs, home ownership, phone bill payment, etc., is far too automatic.

The fact that so many community bankers recognize this and refuse to adopt automatic loan approval policies is another reason why independent banks remain so popular in a world of ever-larger business and banking units.

Mr. Nadler is a contributing editor of the American Banker and professor of finance at the Rutgers University Graduate School of Management.

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