National Mortgage Crisis of the 1930s
The National Mortgage Crisis of the 1930s was a
Pre-crash lending policies
Lending was dominated by four financial intermediaries –
In addition to their geographic range of influence, the four intermediaries differed in their preferred mortgage terms. Commercial banks, life insurance companies, and mutual savings banks typically offered 5-year balloon mortgages at a loan-to-value ratio of 50%.[2] As with any bubble environment, borrowers and lenders alike expected asset prices to rise ad infinitum and tended to continually refinance at maturity, exposing themselves to the clear danger of default and resulting institutional insolvency in the event of tightened credit.
S&Ls, on the other hand, tended to offer 11 to 12 year fully amortizing mortgages, and would generally write mortgages with loan-to-value ratios well in excess of 50%.[2] Borrowers thus faced a decision: accept high payments in return for eventual outright ownership or preference short-term well-being over formal home ownership. Many adopted a hybrid, financing 50% of the purchase price (less down payment) with an interest-only balloon loan and covering the remainder with an amortizing mortgage from a thrift, eventually financing the obligation at maturity of the former (perhaps after rolling it over for several periods) with an amortizing loan, and in so doing extending the term to maturity of this hybrid while at the same time putting forth a smaller down payment (the combined value of the mortgages exceeds an individual mortgage that and individual would qualify for). This hybrid was termed the “Philadelphia Plan” by W. N. Loucks in 1928 in reference to where its use first became widespread.[3]
Though all unique in term structure, each of these three financing instruments – two pure and one hybrid – were at risk of failure. The 12 year fully amortizing mortgage was perhaps the best option, but represented a substantial monthly obligation for the retail borrower even in the status quo, and thus an unmeetable one in the event of an acute economic crisis. The Philadelphia Plan and the pure 5-year balloon mortgage both presented the borrower with a lesser monthly obligation, but were predicated upon the assumption of freely available credit with which to refinance the principal at maturity which exposed them to substantial risk of default under an acute financial crisis characterized by tightening credit.
The Great Depression and subsequent modernization of the mortgage market
The stock market crash on
In 1934, as part of the
Aftermath
Beginning with the advent of the FHA, loan-to-value ratios steadily increased, alleviating the need for borrowers to hold multiple mortgages as was the case with the Philadelphia Plan.
References
- doi:10.3386/w16244.
- ^ a b Morton, Joseph (1956). "Urban Mortgage Lending: Comparative Markets and Experience". Princeton: Princeton University Press, pp. 149-155.
- JSTOR 3139128.
- ^ Yoon, Al (January 11, 2011). "Home price drops exceed Great Depression". Reuters. Retrieved March 1, 2011.
- ^ Peck, Emily (April 22, 2008). "Yale's Shiller: U.S. Housing Slump May Exceed Great Depression". The Wall Street Journal. Retrieved March 1, 2011.
- ^ "Through the floor". The Economist. May 29, 2008. Retrieved March 1, 2011.
- doi:10.3386/w16244.
- ^ Grebler, Leo; Blank, David M.; Winnick, Louis (1956). "Capital Formation in Residential Real Estate: Trends and Prospects". Princeton: Princeton University Press, p. 503.