Wealth Creation

Moderator: Joel Hodroff, Commonweal, Inc.

Joel Hodroff

Why can't we solve the problem of poverty quickly and efficiently, since all the resources to do it are at hand? If we could provide high-paying jobs in poor communities of color, that would have a big impact. There certainly is work to do in these neighborhoods: infrastructure, better health care, better housing, environmental clean-up, better student/teacher ratios in the schools, senior care, and child care. If we look at the list, there is nothing for which there is any foreign competition, or lack of skills, management, or raw materials. At Commonweal, we argue that the only thing missing is money. Yet, we invented money to get things done, not to inhibit this activity. Also, people aren't really working for money, but for the things it can buy. Out in the world today, the scarcity we inherited from the past has been made obsolete by technology. There are empty YMCAs, restaurants, airlines, college and community school desks. Where does the money go? Some say it's going to the rich, some say it's going to the poor, some think it's going to the stock market, or to other countries. So, let's just say, dollars aren't here right now; but dollars aren't the only way we get things done. There's volunteerism and barter, and self-help groups, like Twelve Steps, where the recovery is just as good whether you pay dollars for it or not. The internet can function just as well as a for-profit system developed for millions of dollars.

There's a giant non-cash economy that's producing needed goods and services. Commonweal is introducing a new model, a dual-currency economic development model, in which cash and community service dollars are used to promote needed economic development. People do needed community service, and earn community service dollars, which look more like frequent flyer miles. They are used in the private sector, redeemed for the goods and services that people want and need. It's a profit-driven model. There's enough cash in the formula so that businesses earn a little profit by participating, and it's all paid for by a transaction fee on the new patented dual-currency card. We're proposing a business, labor, government, community partnership, using a currency that isn't scarce, but that is as abundant as goods and services are in the information age.

Tim Bates

Encouraging small business in low-income communities of color is an idea that has been around for decades. It was more widespread in the 1960s than it is today. It is therefore possible to observe patterns through time--mainly, what works and what doesn't. This knowledge has accumulated, but has had little impact on program design in this area. By ignoring this data, people have been choosing to fail.

In 1966, a program called the Economic Opportunity Loan Program was created, initially as a program of the War on Poverty, and implemented by the Small Business Administration. Between 1966 and 1974, over 25,000 loans were made through this program, largely to black-owned businesses operating in central city areas. I wrote a doctoral dissertation on the program's record in Chicago, New York, and Boston, assembling a sample of five hundred black-owned businesses that had received loans, with a median size of ten thousand dollars. Paying particular attention to business start-ups, I found that, as of 1974, looking at loans that had been made in the first four years of the program, over 70 percent of the businesses had defaulted on their loans and gone out of business.

In looking at the applications of the potential borrowers, and using information on the borrowers to predict ultimate success or default on the loan, it was clear that those most likely to repay the loans were those who reported the highest personal income at the time that they filed the loan applications. The Economic Opportunity Loan program actually tried to screen out people with high incomes, because of its emphasis on fighting poverty. In looking at the businesses that failed, it also became clear that even among those who repaid their loans, there was great difficulty making an adequate living on the kind of business one sets up with a ten thousand dollar loan, particularly in a generally weak, declining market, such as the one offered by many central cities. Thinking small, setting up small-scale personal service, retail firms is a high-risk wealth creation strategy. It has generated, consistently, a high incidence of failure.

Let me give you another historical piece of information: In 1973, Southshore Bank was formed in a community of Chicago which had undergone racial transformation, redlining, and disinvestment. Southshore dedicated itself to stabilizing the community, especially the small business sector. They set up a special loan program to target local small businesses, particularly those in a local shopping corridor. Start-up businesses and existing businesses were sought out, and loans were made ranging from five to five hundred thousand dollars. Goals of the program were: community wealth creation, community job creation, and support of the shopping district, which was seen as part of the infrastructure of the community. Two hundred and four loans later, in 1983, the program was disbanded, on the judgment by the bank that they had not made any difference in the overall quality of the shopping corridor.

Southshore conducted a serious analysis that revealed that in this, as in other central city areas, shoppers were looking for price, amenities, convenience, and selection, which often led them to suburban malls. Increasingly, the function of the local retail strip was convenience shopping. The amount of purchasing power being spent there was on a downhill trajectory, in response to increasing options elsewhere. The single most important element in creating viable businesses in the program was found to be managerial expertise. Highly qualified, experienced managers were most likely to succeed, but were also likely to decide that they could make a better living elsewhere. Southshore determined that 48 percent of the retail businesses were successful. Most of the rest of the businesses were in consumer services, where the success rate was around 57 percent. Many other programs generated similar track records in the 1960s and 1970s. Probably the most common target for these loans was the small-scale local retail establishment, which is also the kind of loan that has had the least success.

It is possible to choose to succeed. Two rules of thumb gleaned from sorting through the data we have are:

(1) Think big, not small. People shopping in the central city want the best that the metropolitan region has to offer. Pathmark in New Jersey has been successful and profitable in opening top of the line stores in depressed communities. It kept the local purchasing power in the community.

(2) Bring in dollars from the outside. For example, small construction firms can upgrade the local housing stock, are inherently mobile, and provide employment for young people who have not had a college education. Another example is business services, firms that sell to businesses in the city and surrounding suburbs. Maintenance and security firms, both labor-intensive, bring large amounts of money into the community. This knowledge could be used to direct more of the programs toward success. Instead, too often we see programs such as micro-enterprise loan programs, which tend to do little more than generate working poverty.

Paul Hudson

Tim's two rules of thumb sound right to me. I also agree with James Head's argument about debt-financing. I run a small S & L, about 120 million dollars, in South Central Los Angeles. Someone in my family has been running it for the past fifty years. It seems to me that we should identify ourselves as in-place strategists, mobility strategists, or both. I thought I'd say publicly that I'm an in-place strategist. It's not because I've read all of David Rusk's works and found them to be inaccurate, or that I've made an informed decision; I'm an in-place strategist because I've been working in the same place for sixteen years. More importantly, it's kind of been defined for me, in that Broadway Federal has been serving the South Central market, in kind of an insulated community, for all those fifty years. It's our mission, and it's what we do. We're in this place and there are a lot of people who need banking services, and that's what we do.

I like looking at Tim's model in relation to my company to see if this thing really works. (1) Think big: I like to think we did. We were a mutual, owned by our members. I decided we should go public; we should offer stock in our company to our community, be listed on the NASDAQ, and raise capital. It took me two years to convince the board, but we actually converted in January of this year, and we are now a publicly traded company. To my knowledge, it's the first public offering that was ever done in South Central, and one of the few in the country by an African-American company. My goal is to become a state-wide minority institution with branches in minority low-income communities, doing more loans, bigger loans, in more communities. (2) Export products and services. We are now bringing in accounts from outside the community. We recently did a deal with Paramount Studios, to run all their project accounts through Broadway Federal, and it's been a very positive relationship for us. We're bringing money from outside and recycling it through our community. That's a strategy that works. I think there's a role for partnering in this concept of wealth accumulation, building up economic strategies. Mayor Reardon and Magic Johnson, in partnership with Sony, have made a major impact in South Central L.A. with the Magic Johnson Theaters. It's a very positive result of a partnership. I think there are others that could work.

The other thing that Tim said that's correct is that you really have to provide the best products and services, and that's what we're trying to do. Broadway Federal and other businesses are on the cutting edge of what's going on in the African-American community in particular. The evolution of black business in America is later, because on the whole, we got into the game later. This generation is really making the move to bring African-American entrepreneurship to a different level in a lot of things. Not just exporting products and services, and providing more job opportunities within our community, but also having an impact on wealth accumulation. We just raised nine million dollars, 50 percent from within South Central, 50 percent from outside.

There are major challenges to running a bank in South Central L.A.: high unemployment, low incomes, and a low level of net worth. Our public offering is an effort to bring in more capital from the outside, which I view not as debt financing, but as equity financing. My role as the manager of a publicly owned company is to create wealth for my shareholders. My shareholders just happen to be predominantly low-income minority blue-collar people in South Central L.A., that's the only difference. If I am successful, I will create a new model for wealth in our community, because I agree that the primary source in the past has been real estate. For us to break out of our mold, we need to look at additional opportunities, especially as the real estate market, in California in particular, takes some hits and misses.

Sam Myers

What is the problem we are trying to solve? The problem is inequality in wealth, not income. Wealth inequality is a bigger problem because, if nothing is done to rectify it, it will be reproduced or even magnified in subsequent generations. In recent years, the relative position of black families to white families is lower than at any time during the '60s, '70s, or '80s. Much of the research has focused on income. There has been a drop from sixty to fifty-seven cents on the dollar in black/white income levels, but the net worth of black families is only thirty cents for every dollar of net worth for white families. Even in the lowest two-fifths, the gap in net worth is far larger than the gap in income.

The greatest contributor to the net worth discrepancy between whites and blacks is not differences in holdings in stocks and bonds, but home equity. The low net worth of African Americans is not because they are poor. Poor white families in the lowest quintile of income have two hundred dollars for every dollar a poor black family has. Most of the difference is because poor whites own their own homes, and poor blacks own nothing. The first step has to be to address this.

The biggest component of net worth is home ownership and home value. The cause of much of the black/white gap is discrimination in the housing, mortgage, and insurance markets which create different rates of homeownership; and the effects of segregation on the price of equity in homes owned. There are three major consequences of huge racial differences in home ownership and access to equity: (1) the inability to transfer current gains to future generations, (2) harms to overall savings (and thus the pool of investment funds that could be used to redevelop/revitalize low-income communities), and (3) spillover of negative effects (e.g. crime, underground economy, unwillingness of investors to enter high rental areas).

The Wilkins Center has proposed a "50/30 Plan" to rectify the situation in the Twin Cities. Minnesota is at the bottom of the list for African-American homeownership, at 30 percent, compared to a rate for whites of 74 percent. Our plan is to help eighteen year-olds start and maintain a savings plan and keep a good credit record, so that, by the age of thirty, they will be able to own a home. This would increase black home ownership by 20 percent. The main part of the plan would be to educate people, especially about how to save, how to get loans, and how to keep a good credit record, to force them to think of long-term goals. We must also fight the battle against racial discrimination in loans, which is defined as loan rejections which cannot be explained by size of down payment, credit record, neighborhood conditions, etc. Therefore, lenders need to be at the table when we work on this plan for improving access to net worth through increased home equity.

A second step in wealth creation is entrepreneurship. There used to be small-scale entrepreneurs in the black community. My grandparents ran a clothes washing shop; but the kids of these entrepreneurs did not become entrepreneurs themselves. Some of them went on to Harvard, and places like that, and became managers at corporations, or professors, or lawyers. The next generation of entrepreneurs is engaging in activities that may not be legal. We need to redirect the existing entrepreneurial skills in the community. A program in New Jersey focused on people with the highest education degrees. These people are probably happy being psychiatrists, or what have you, and have little interest or ability to be entrepreneurs. We in America have not yet embraced the new entrepreneurial class. United for Peace discussed a plan in which the Vice Lords or other groups manufactured colorful bike or running clothes. Few people in the community supported this.

The third aspect of a plan for reducing wealth inequality is pooling resources from churches, alumni organizations, professional organizations. There is the capacity for a community lending consortium in the black community, if there is security that the money will be used for reinvestment in the community. How can these be used for capital formation in the African-American community? We have to define core activities to support, which will have to include home ownership.

The fourth aspect is a saving initiative. We need to educate people, especially the young, on how to save, how to maximize their returns. Whites are seventy-one times more likely than blacks to have money in an interest-bearing checking account. How is this possible? The ideal of saving is not being reinforced.

Lastly, we need to focus on development of black businesses that serve the majority community, with funds reinvested in minority neighborhoods. Maybe this is already happening in California, but Minnesota does not have enough people in the minority community to support businesses without the support of the majority community.

David Rusk

The two key parts of wealth creation are business entrepreneurship and home ownership. There need to be more "place-based" businesses within low-income communities. There need to be more African-American entrepreneurs. We are finding few African-American entrepreneurs in Watts or South Central Los Angeles. It is difficult enough to be an entrepreneur elsewhere, where there are more favorable conditions. I suspect there are many African-American entrepreneurs, but not as many in high-risk areas.

Michael Porter's article, "The Competitive Advantage of Inner Cities" said that in central cities in which there are still major businesses, universities, and hospitals, there is support for spin-off business activities. An example I know of in D.C. is Lamont Johnson's Cafe, at which 50 percent of the business comes from the community restaurant business, and 50 percent from catering for the World Bank and other institutions. The two elements are complementary and equally necessary, and demonstrate Porter's theory. The article is thoughtful and useful, but seems to offer entrepreneurship as a panacea, ignoring the underlying problems of racism and poverty. Politically, it is a very comfortable solution: the inner city communities can solve their problems without looking to the community of politicians and policymakers. I have asked Porter if he has information on where, when the central city business district is removed from the analysis, there has ever been a net increase in employment or payrolls through entrepreneurial efforts in inner city neighborhoods.

These communities rarely come back. Bedford-Stuyvesant, despite the efforts of the Bedford Stuyvesant Restoration Corporation, is an example: Over the last twenty years, it has lost 27 percent of its households. Households missed by the census tend to be ones that would increase the recorded poverty levels. Poverty rates in the years 1970-1990 went from 27 percent to 34 percent. Out of eighty-five census tracts, in 1970, sixty-four were classified as poverty, seven as high poverty, and fourteen as non-poor. In 1990, those numbers had changed to forty-five poverty, thirty-seven high poverty, and three non-poor. There is still 2.4 billion in income in Bedford-Stuyvesant, but sometimes it seems that the only business that recognizes that buying power is the drug dealers.

Home ownership is the other key element of wealth creation. Because the principal component of wealth is in the home, segregation means that African Americans are systematically robbed of the growth in equity in homes and net wealth that whites have received. We need to address the level and location of housing nationwide, and we need integration to create wealth for low-income people of color (see American Apartheid by Massey and Denton). In metro Baltimore, of the 205 majority African-American census tracts, only 17 have income levels above the metro average. In Washington, D.C., this ratio is 255 to 21. In Chicago, it is 400 to 22. This means that if an African-American family lives in a majority African American neighborhood, the odds are that they will be living in a below average income area, which translates into below average home values as well.

A further impact of housing segregation is that if 70, 80, or 90 percent of an area's total housing market (whites) is withdrawn from that neighborhood, it will not appreciate as it should. The general community must be integrated to maintain a strong housing market throughout. We need to open up the entire housing market to minority homebuyers, so that the African-American neighborhoods will not be rejected by the white majority, and subject African Americans to soft markets and depreciation.

We must continue to pursue the dream enunciated on August 28, 1963, on the steps of the Lincoln Memorial--an integrated America by race and income class--to open up to the African American community the same kinds of opportunities that have been available for the majority community. After almost four hundred years of working together to build this nation, at the threshold of our fifth century together, it is time for this nation to reach out and admit African-American citizens to their full inheritance. Strategies which focus on the small community in a segregated society are just not going to be able to do the job, and that includes wealth creation as well.

Question and Answer Session

Hudson: It's important that we distinguish between empirical proof and what we just think we know. For example, I do not like the reference to drug lords as entrepreneurs: they are middlemen. Further, they are not the major players in South Central. We can look to a broader pool of entrepreneurs than drug dealers. I know of many people who went into business other than drug dealing. Also, more people are coming back from Berkeley and Harvard to Watts, after their experience in corporate America.

Myers: I would be happy to show you documentation showing entrepreneurial abilities of people who are convicted of drug crimes.

Hudson: There are still people like your grandparents starting businesses.

Myers: There has been a major shift in the economy since that time. With technology, just being able to wash clothes isn't enough. Technological developments changed our family. In families like the Myers family, there are a group of people who are lawyers, scholars, judges, and a group who are drug dealers.

Hudson: South Central L.A. is not the same economy as the majority community. Storefronts are opening up in South Central every day. We have a grocery store every twenty blocks, a bank every thirty blocks, a computer in every ten thousand homes in South Central.

Question: Do you have any success stories?

Myers: In Florida, there was "Be Your Own Boss," a business composed of welfare mothers from a housing project. These women knew that boric acid is really effective on roaches. The wealthy Palm Beach residents didn't know about boric acid. They called in exterminators, who used pesticides, which didn't work as well. All Be Your Own Boss needed, besides the boric acid, was a van and bookkeeping. This illustrates the capacity of some of the people in housing projects, who are usually marginalized, when they are allowed to apply their skill to a useful business. Not every welfare mother is qualified, but not every Ph.D. would have been up for the task, either.

Rusk: What happened with Be Your Own Boss? Did the Raid company buy them out? That sounds like a great deal to me, boric acid rather than all those sprays.

Myers: Who bought out the entrepreneurs? The funding for the leases of the vans was through CETA. CETA was replaced with the Job Training Partnership Act. Under the JPTA, new emphasis was given to organizations that could prove that 75 percent of the people who started training with them finished and were placed in jobs. Be Your Own Boss didn't achieve this, because they had to eliminate those who did not have the capacity for entrepreneurial activity. The banks wanted nothing to do with it.

Hudson: Let me give you another story. Picture South Central L.A. as it is portrayed in the press. In South Central, there are, among African-American businesses, two S & Ls, with combined assets of 270 million dollars and combined 85 years in business; and a bank with 100 million dollars in assets, which has been in existence for 15 years. There is a 300 million dollar insurance company which has been around for 45 years, and an HMO which has 800 million dollars in assets and has been around since 1965. There are a number of smaller, third generation businesses. The press doesn't let you know there are success stories. Clearly, unemployment is going up, incomes are going down, and the gap is getting wider; but South Central is not a desert or a dump. People own their homes, value their lifestyles, and businesses thrive.

Avis Vidal: My impression was that much of the gap in black/white wealth through homeownership was accrued at a time when home ownership was on a dependable upward climb, and real interest rates were below rates in the economy as a whole. Is home ownership still a good idea now, with values much more unstable, and interest rates for borrowing more like the rest of the market? Do you still favor home equity as an investment strategy?

Myers: I've done several papers on this. There have only been about three windows of opportunity in the past thirty years for accruing substantial wealth through real estate. Blacks did not participate in substantial numbers in any of these windows. One was in the seventies, when housing prices were rising. The most recent was in 1992 and 1993, when interest rates were falling. In 1993 about 50 percent of loans made nationally were for refinancing. Net worth is the difference between assets and liabilities. One way to increase your net worth is to decrease your debt. Why did African Americans who already had homes not refinance and reduce their debt? The reason is that their attempts were rejected. This can be explained by economic and demographic factors up to 25 percent. Seventy-five percent of it can be explained only by discrimination, irrational discrimination against people who had already demonstrated the capacity to make their payments. Bankers were advertising to the white community in Minneapolis and St. Paul, but not to qualified African Americans. If we don't change this, the next window will also be lost.

Question: I'm an economist by training. If what Professor Myers says is true, Mr. Hudson has a real opportunity to go national, if there are this many good loans that are not being made, and Mr. Hudson can discriminate between good and bad loans, not based on skin color. What has been said here, especially by Mr. Bates and Mr. Hudson, is that the fundamentals of wealth creation are the basic economic fundamentals: have a good income, save it, and exploit local knowledge or expertise in some way. This suggests that if we have better education, people who earn incomes will know what you can do to save it with compound interest. If we have education to build entrepreneurial expertise and experience, then have, in addition, access to capital, then we can make real progress by just sticking to economic fundamentals. If so, we can accomplish so much just by emphasizing education in economic basics, rather than thinking there is something special we need to do for African Americans, other than equip them with knowledge and access to capital.

Bates: There are market niches created by discrimination in the lending industry. I was recently at an advisory board meeting of Inroads Capital, a minority-owned venture capital firm. A former student of mine is now buying accounts receivable from minority businesses that sell to government and corporate clients. He worked in commercial banking for fourteen years, and saw that commercial banks were not serving this niche. As this kind of knowledge spreads in the minority community, the world begins to change in some interesting ways.

Ron Krietemeyer: (to Myers) Why not teach those same eighteen year-old African Americans the way the upper 10 percent get their money (stocks, investments)?

Myers: The widening gap between the upper and lower wealth levels has more to do with the control the top 10 percent have over decisions that affect what the returns on various investments will be. That's not something I can teach, except to teach entrepreneurship of a ruthless kind. The gap between blacks and whites can be changed by education about savings, delayed gratification, good use of credit. An example is car ownership: you shouldn't even want to own a new car! Homeownership is primary, and the investment is unlikely to depreciate. The place to start is the realistic quick success of homeownership.

Hudson: Wall Street does not come into South Central L.A. and other low-income communities to market opportunity. Wealth opportunities are not allowed at levels low-income people can afford. The system isn't set up to incorporate African Americans. We had standing room only information sessions when we decided to take our company public. We had long lines at closing time on the days that we offered purchase of shares at the bank. In California, many people have seen their investment in real estate plummet in value. Real estate appreciation now is at 2 to 3 percent. I can give you 5 percent on a CD. We need to change our habits and stress the importance to our community of savings.

Question: Minimum wage is not a living wage. When I grew up, you could get a good job without a master's degree in computer science. We need to close the gap between the lowest and the highest income levels.

Hodroff: We're mesmerized by money. We need to look at the difference between money and wealth.

Justin Cummins: Do any of you define wealth more broadly than money, and what ideas do you have for increasing that?

Hudson: Expanding the wealth knowledge of low-income communities could be done exponentially, because it's so low now.

Bates: The real wealth of a community is its people, their relationships and institutions.

Myers: We use wealth because it is measurable, unlike happiness, or well-being.

Hodroff: The difference between self-help groups and paid therapists is a workable comparison of the difference between riches and wealth, or quality of life and money.