American Mortgages Through the Decades

           When it comes to financing real estate purchases, mortgages have been around for centuries. The first loans called mortgages developed in the middle ages; the word itself comes from Norman law books as “mort gage” or “dead pledge.” The word dead here refers not to any human death but to the fact that medieval mortgages did not amortize; there was no repayment of principal until the end of the mortgage’s term. This was meant to contrast them with “living” pledges or “vif gage” which were amortizing and thus paid down during the life of the loan.

           As for the United States, while mortgages were a common form of debt, they did not become nearly as ubiquitous as they are today until the mid-20th century. To begin with, in the early 1900s, the majority of Americans did not own their own homes and this included the vast majority of people in urban areas. But, from the 1930s on, the history of the American mortgage tracks the growth in owner-occupied housing in the US.

Pre-Depression

           Much of the infrastructure of the US system of housing finance was reformed during the Great Depression. As such, prior to the 1930s, the American mortgage looked very different. Some mortgage lenders looked the same as those of today; commercial banks underwrote and held many such loans. However, the other institutions active in mortgage markets looked very different. In the early 1900s, there were none of the securitization vehicles that exist today. In their place, insurance companies and savings and loan institutions (S&Ls) were large issuers and holders of mortgage loans.

           The terms of a typical loan in the 1920s, for example, were also very different from those of today. In addition to being variable-rate, pre-Depression mortgages tended to require much larger down payments; loan-to-value ratios were usually capped at 50%. As such, down payments were much larger. In 1920, the average value of a mortgaged home was $4,900 in the US, according to census data, so a typical borrower would need a down payment of no less than $2,450.

           Note that another feature of mortgages of this era was that many, if not most, were non-amortizing. This meant that payments went only towards interest and the entire principal of the loan was due at the end of the term, which was often just 5 years. The result was that the average loan-to-value ratio for a mortgage stayed close to 50% for the life of the loan; perhaps declining slowly if property values were rising. Indeed, in 1920, the average American mortgage debt was $2,100, or 43% of the average value of a mortgaged home. Not all lenders were the same in their mortgage offerings though; S&Ls (then more often known as Building and Loan Associations, B&Ls), tended to offer amortizing mortgages for somewhat longer terms.

           Nonetheless, virtually all mortgage lenders in that era were local institutions. Only insurance companies had national operations; commercial banks, mutual banks, and S&Ls tended to operate in specific local or regional markets. The result was that interest rates could vary considerably across regions; mortgage loan rates were generally lower in the urban Northeast and Midwest and higher in the South and West. The average mortgage rate in New Hampshire was 5.1% in 1920 and was 8.4% in Montana. During the Depression, the strange peculiarities of this system quickly gave way to a mortgage market recognizable to Americans today.

New Deal       

           The tight terms of those early mortgages were put to the test during the Great Depression, which was so severe it caused American home values to fall by 50% from their peak. As home prices fell, the size of mortgage debts grew relative to home values; loan-to-value ratios rose, exposing banks to loses in the event of foreclosure and prompting some borrowers to walk away from their mortgages. The reforms that followed the crisis included the creation of the Federal Housing Administration, the Federal National Mortgage Association, and the Home Owner’s Loan Corporation. Only the first two of these institutions, the FHA and Fannie Mae still exist today, but the HOLC also played its own role in the creation of today’s mortgage loan.

           The HOLC functioned like a kind of “bad bank,” buying defaulted mortgages from lenders and reinstating the loan to provide relief to owners otherwise facing foreclosure. It also dramatically changed the terms of these mortgages. The largely short-term and non-amortizing structures of the old mortgages were turned into long-term and amortizing structures, 20 years in term. The FHA and Fannie Mae were formed to provide mortgage insurance and financing to mortgages conforming to new standards that were generally more borrower friendly than the old terms. Together, these reforms drove home-ownership rates higher in the following decades.

Getting to Today

           Overall, the reforms of the 1930s did not bring about a full recovery in the housing market. Home construction rates peaked in 1925 at just under 1 million units and fell 90% during the Depression; they did rise but did not return to the pre-Depression pace until after WWII. The next major wave of reforms came after that war. The G.I. Bill of 1944 created the VA mortgage, which virtually eliminated down payment requirements for mortgages to returning soldiers. Then, in 1948, the FHA further loosened conforming mortgage terms, increasing the standard mortgage term to 30 years. Loan-to-value ratios on new mortgages soared to as much as 95%. Mortgage debt grew rapidly, growing almost 200% in the 10 years ending in 1955, this was only slightly slower than the pace during the boom years of the 1920s.           

            As the decades passed, still more changes occurred in the mortgage market that made mortgage loans and therefore home ownership, more accessible, perhaps excessively so. Starting in the 1970s, Fannie Mae and the newly created Freddie Mac began to purchase mortgages that were not insured by the FHA, but otherwise conformed to FHA standards. In the 1980s, variable rate mortgages made a comeback in the form of the adjustable-rate mortgage due to the volatile interest rates of the era. This form of mortgage kept lenders active in the mortgage market during that volatile time, but it also created an opening for predatory lending practices by allowing borrowers to sign up for a mortgage at unsustainably low introductory rates that could then rise.

            From the 1980s on, securitization vehicles became a new source of funds for residential mortgages; the rest is fairly recent history. As is evident now, the innovations of the later part of the 20th century had some negative side-effects; among them a sharp and ultimately unsustainable rise in household mortgage debt. Indeed, the earlier reforms to housing finance did also coincide with rising mortgage debt. Residential mortgage debt as a percentage of GDP rose from about 10% in 1947 to 30% by the mid-1960s. However, it changed little over the next two decades before rising sharply in the late-1980s and then surging in the 2000s.

Lesson

           The American system of housing finance is a peculiarity. Outside the US, mortgages look a lot like those that dominated in 1920s America, with variable interest rates and non-amortizing or partially-amortizing structures. In many countries, mortgage terms are also substantially shorter. Even today, the most common mortgage term in Canada is 5 years, and mortgages there are almost never written with a term of more than 10 years. Indeed, the structure of Canadian residential mortgages are not too dissimilar to commercial mortgages in the US, which have not seen the same degree of evolution over the 20th century. Had the reforms of the last 100 years in housing finance not occurred, American residential mortgages would probably look a lot like those from north of the border or even like American commercial mortgages. Given the travails faced by the American mortgage market and its mammoth size, it should be obvious how important this corner of finance is, both to global economic stability and domestic standards of living.

Further Reading

1.     Green, Richard K, and Susan M Wachter. “The American Mortgage in Historical and International Context.” Journal of Economic Perspectives, vol. 19, no. 4, 21 Sept. 2005, pp. 93–114.

2.     Hur, Johnson. “History of The 30 Year Mortgage – From Historic Rates To Present Time.” BeBusinessed.com, 16 Dec. 2018.

3.     Mortgages on Homes in the United States. 1920th ed., US Department of Commerce – Bureau of the Census, 1923.

4.     Roos, Dave, and Lee Ann Obringer. “How Mortgages Work.” HowStuffWorks, 8 Oct. 2002.

5.     Snowden, Kenneth. “The Anatomy of a Residential Mortgage Crisis: A Look Back to the 1930s.” 2010.