Beyond Disparate Impact: Risk-based Pricing and Disparity in Consumer Credit History Scores

Abstract

Despite the increasing importance of credit scoring to an expanding range of activities, very little is known about the nature of the credit scoring process. This article examines the interaction of credit scoring with risk-based pricing, exploring the potential for credit scoring to contribute to the segmentation of low- and high-cost credit markets. Specifically, it uses a stylized example to illustrate the mechanism through which credit scores may capture disparities in surrounding credit markets, passing them into future periods and other credit markets. In the wake of mounting subprime foreclosures, this mechanism contains the potential to exacerbate the concentrated impacts of the subprime crisis in low-income and minority communities. The article examines this issue in the context of existing regulatory actions.