Last week, the California legislature sent the governor a bill that would ban most employers from running credit checks on job applicants. If the governor signs the bill into law (which this web site tells us he’s likely to), California will become the biggest get yet for those pushing for such laws around the nation. Is this just what a country full of unemployed people with wrecked credit needs? Or is it, as HR managers have been hollering, a way of hindering them from finding good, upstanding workers?

The back story is as follows. A decade ago, about a third of employers ran credit checks on job applicants; today, some 60% do. HR types (and, of course, the Big Three credit bureaus) argue that credit checks help firms find reliable employees who are unlikely to steal from company coffers. Civil liberties types argue that pre-employment credit checks have a disparate impact on groups that tend to have lower credit scores, like minorities.

The Great Recession is what makes this back-and-forth particularly interesting. Losing a job is one of the fastest ways to wreck your credit. Now, it seems, that same bad credit may hinder you from regaining a steady paycheck and mending your finances. Quite the vicious cycle.

But you’ve also got to feel a little bad for firms. The labor market is full of asymmetric information and while employers often have the upper hand (they know how much other workers get paid, what employees actually contribute to the bottom line, etc.), it can be a very scary thing to go out into the world and pick a person to let into your business.

So who should win the debate? Should firms be banned from using credit checks in the hiring process?

Let’s look at the evidence.

There is a lot of reason to believe that using credit reports to judge candidates will lead to unfair outcomes. Consider, for instance, a case the Department of Labor won against Bank of America which revealed that by using credit checks in its application process for entry-level jobs, Bank of America excluded 11.5% of African-American applicants, but only 6.6% of white applicants. Who else might reliance on credit reports work to exclude? Well, the major causes of bad credit are things like divorce, large medical bills, and unemployment. So, maybe divorcees, the uninsured, and the currently jobless?

Now, one might argue that while such a situation is unfortunate, it is nonetheless part of a bigger picture. By judging job candidates on debt-to-income ratio, accounts in collection, foreclosures, bankruptcies, and education and medical debt (all things firms report will make them less likely to hire a candidate), employers are helping to ensure that they wind up with good workers.

The only problem is, there isn’t any evidence that credit is an indicator of how reliable a worker will be, or the likelihood that he will embezzle or otherwise steal. As a lobbyist for TransUnion testified in front of Oregon legislators last year: “At this point we don’t have any research to show any statistical correlation between what’s in somebody’s credit report and their job performance or their likelihood to commit fraud.” The state of Oregon has since banned job candidate credit checks.

So have Connecticut, Maryland, and Illinois, joining first-movers Washington and Hawaii. It looks like California will be next. And that’s almost certainly a good thing.

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