Housing in America
K. Wayne Hast
March 18, 2009
My family and I always enjoy visiting and touring Williamsburg, Virginia and even had Thanksgiving dinner at the Williamsburg Inn last year. When you visit Williamsburg you get the feel of how the inhabitants of that community lived over 300 hundred years ago. Land was readily available at little cost. Then all you needed to do was locate the necessary labor, tools, and materials – required to construct the various buildings. Barns, houses, churches, and many other buildings were built by these amazing settlers. In early Williamsburg there were few construction loans – or for that matter mortgages involved.
Mortgages were more common in Europe. The beginning of the mortgage system has been noted in England, as early as 1190. English common law provided a law that protected a creditor by giving him an interest in his debtor’s property. According to this law, the mortgage was a conditional sale. The creditor held title to the property, but the debtor could – in the event the debt wasn’t paid – sell the property to repay the loan.
Early Mortgage History in America
As early pioneers moved from Europe to settle in America, they brought their systems with them. As land ownership increased, the demand for mortgages also increased – so much so that by the early 1900s, they were widespread and readily attainable.
However, not everybody could get a mortgage. In those days, buyers seeking to purchase property were usually required to pay a 50% down payment on a 5-year mortgage. If such a person bought a $5,000 house, the borrower had to have an initial $2,500 down payment and pay interest for 5 years. Payments could be structured in many different ways. Annual payments that included incurred interest and one-fifth of the original note were common. At the end of 5 years, the unpaid balance of the loan of $2,500 would have to be either paid or refinanced.
This system continued through to the Great Depression when – lenders had no money to lend, and borrowers had no money to pay. The whole system collapsed with thousand upon thousand of foreclosures (does this sound familiar). Mortgages were no longer available. Cash was needed to purchase a home, farm or commercial building. In 1938, H.L. Hunt bought his home in Dallas, Texas – this home was a larger version of George Washington’s Mount Vernon – for $68,000 in cash. It included a large track of land – of over 50 acres. This historical home is currently for sale – with some ten acres of land included – for 50 million dollars. Many very nice homes in Dallas during that 1938 time period were purchased for as little as $1,500 in cash.
My grandparents bought their home in Garland, Texas during this period of economic history. However, people considered a house as a place to live and raise their children not a speculative venture with a goal of buying and then selling the house for a quick profit. If the value of the home increased over time, it was considered a nice extra. If a person was lucky enough to obtain a loan, the goal was to repay the loan as quickly as possible.
Post World War II
After World War II the America saw a major increase in home ownership. Millions of middle-class households took advantage of newly available long-term – fixed rate mortgages to buy homes in cities and the thousands of newly developed suburbs.
Levittown is an excellent example. Levittown, a suburb of New York City, is a hamlet in the Town of Hempstead located on Long Island in Nassau County, New York. Levittown is mid way between the villages of Hempstead and Farmingdale. The 2000 census, gave the community a total population of 53,067.
Levittown gets its name from its builder, the firm of Levitt & Sons, Inc., which built it as a planned community between 1947 and 1951. Levittown was the first mass-produced suburb and is regarded as the archetype for postwar suburbs throughout the country.
So successful was the Levittown community that on July 3, 1950, the founder William Levitt was featured on the front cover of Time magazine. This success continued throughout 1950 and 1951, by which time the Levitt & Sons, Inc. had constructed 17,447 homes in Levittown and the immediate surrounding areas. As GI homeowners settled into well-paying jobs and began families, the Levitt homes and those homes built in the surrounding communities were enlarged to suit the needs of growing families.
Housing Boom Continues
Home ownership in America grew through the 1940’s, 1950’s, and 1960’s. During this period the percentage of America households that owned homes grew just above 62%, where it remained stable at that level for next 35 years.
In 1957 my parents bought a home in Dallas and 16 years later they had paid off that house – celebrating by burning the mortgage. When they purchased the home they had paid about 30% down and took over the original 20 year loan. Having grown up during the depression, they as millions Americans were not interested in maintaining debt.
In 1994, overall home ownership in America was stable 64%. It had been 62.1% in 1959 and so there had been a less than a 2% change in that 35 year period. By 2005, American homeownership had risen sharply to over 69%, and by 2005 over 73 million homes were owned by American households. Since 1994, nearly 12 million American households had become new homeowners.
While many believed this to be a wonderful opportunity for American’s who had been unable to achieve the goal of home ownership in the past because of their personal financial situations, it was soon to become a worst nightmare for our nation and the entire global community. Our governmental officials with the prompting of a number of powerful lobbies such as Acorn, Association of Community Organizations for Reform Now (which had a goal of increasing availability of housing for first time homebuyers and tenants) pressured banks and the home loan Government Sponsored Entities – Freddie Mac and Fannie Mae – to provide loans to high-risk borrowers who would had been unable to meet even the very most liberal lending standards.
Prices for homes in many areas of the country were driven up to ridiculous levels. In Las Vegas track homes that cost as little as $150,000 to construct, were selling for $600,000 based on inflated land values and increased demand created by loans given through the first-time homeowners programs, no documentation loans, and other unique programs.
Path to Prosperity Led to Destruction
In 1993 Henry Cisneros became the Secretary of Housing and Urban Development. For the next four years, he and the Clinton Administration promoted homeownership for low and moderate income individuals and families. Mr. Cisneros along with many other entities – including the Federal Reserve – fostered the growth of what we now refer to as the sub-prime market. The Federal Reserve Bank of Dallas, and I helped promote this agenda by co-hosting with the US Department of Housing and Urban Development, an Affordable Housing Conference, in Ft. Worth, Texas.
A number of innovations also helped the rise of the subprime market during the 1990s and into the 2000s. While definitions of subprime mortgages vary, in essence they are loans given to households with lower credit quality, and they also carry higher than average interest rates. A study by Harvard University's Joint Center for Housing Studies (2006) stated that the subprime market – between 2001 and 2005 – grew from just $210 billion (in real terms) to $625 billion. The growth in this subprime market had given millions of households access to credit that would previously not been granted; hence, the increase in the subprime market helped to significantly boost the homeownership rate.
Note: Growth in the subprime market arose, in part, because of the increased use of credit scoring. Credit scoring is a relatively low-cost technique of assessing the risk of a loan, so it may have made subprime lending decisions cheaper and allowed mortgage lenders to consider a larger volume of high-risk loans.
Also, there was been an increase in the array of mortgage products available to consumers, especially products that have low initial payments and low down payment requirements. These products may be especially appealing to consumers who are cash constrained and expect their incomes to increase over time.
Additional factor that intensified the effect of demand for homes were creative loans designed to be bridge loans. For example, so-called 2-28 loans were set up at fairly high initial mortgage rates for borrowers with low FICO scores. If such a borrower made the payments, and if the price of the house rose as expected, the borrower it was believed would then be able to refinance, presumably at a lower rate, in two years.
Another innovation in the mortgage industry that boosted demand for homeownership was the development of home equity lines of credit and new streamlined processes for refinancing. Using these, homeowners were able tap the equity from their homes easily and at relatively low costs, thus making the home an appealing savings vehicle and, consequently, making homeownership more desirable. Homeowners were tricked into believing that their home was actually an ever growing piggy bank – there to tap into for any need or want, such as a swimming pool or vacations in the Tuscan countryside.
There were reasons beyond innovations in the mortgage industry for homeownership to have increased. For instance, from 2000 to 2005, house prices increased at an attractive 8.7% per year on average; it is possible that homeownership rose in part because most households viewed housing as a good investment.
The Mortgage Meltdown The decline in house prices were like falling dominoes setting off the chain of distress that now plague financial markets and the economies worldwide. Problems at first appeared with growing delinquencies and foreclosures in the subprime mortgage market. At the present time more than 20% of them are delinquent (60 days or more past due) or in foreclosure. Most seriously troubled states include Michigan, Nevada, Florida, and Ohio, and California.
Property values continue to decline nationally. Each month more and more homeowners find themselves owing more than their homes are worth. However; this is less of a concern for those homeowners who are in fixed mortgages, are able to afford their current payment, and who do not plan to move for the next five or six years.
The erosion in credit quality that now afflicts not only subprime but also prime mortgage and home equity loans has spread across the full spectrum of consumer loans, including credit card, closed-end consumer, and automobile loans. These losses have compounded the pressures on financial institutions and continue to exacerbate the credit crunch.
I suspect the worst is yet to come for home values. Homeowners in many areas will see continued declines of home values though-out 2009 and well into 2010. Some areas of Florida have experienced unbelievable declines in home values. Home values nationally experienced record declines in 2008. The Case/Schiller 20-city index fell 18.5% last year.
"We reached another grim milestone in the housing market in December," said Robert Shiller, Chief Economist at MacroMarkets LLC and co-creator the Case/ Shiller Index in a statement. Home prices declined 18.5 % in 2008 compared with last year in the 10-city index, a record low. The Composite 10 index is off 28.3 % from the peak. The 20-city index also fell 27 % from the peak. (The Case/Shiller report compares same-home sale prices. The industry considers it the most accurate snapshots of housing prices.)
In Phoenix, house prices have declined more than 45% from the peak. At the other end of the spectrum, prices in Charlotte and Dallas are only off about 9% from the peak. Prices fell at least 1% in all Case-Shiller cities in December, with Phoenix off 5.1% for the month of December alone.
The reports, however, did offer some good news. The rate of year-over-year price declines slowed in Boston, Denver, Los Angeles, San Diego and Washington, according to the Case-Shiller index, while cities in Washington, North Dakota and Texas posted year-over-year quarterly gains.
It took two decades for this problem to be created and values will continue to decline until demand increases – as homes become more affordable. The availability of more affordable housing will be a silver lining for housing consumers in the future. One of the lessons to be learned is that houses are for living and are not necessarily an investment.
Note: Some foreclosed upon homes are being purchased and resold by investors for a profit.
The good news is that given time housing prices will eventually begin to increase again. The rate of increases will be much slower in the future and will reflect the realistic value of homes. In case anyone missed the message – homes and home construction sites were selling for highly inflated prices. We were in a housing bubble and now the bubble – as have all past bubbles – has burst. We will all feel the result for years and years to come.
Note: As an economist and economic educator, I have spent my career explaining to students, friends and often anyone who will listen, the importance of an economically literate electorate. The objective of this article is to give readers an opportunity to gain a better grasp of the economy within which we as Christians live and work.
K. Wayne Hast is a graduate of Dallas Baptist University and has served as a DBU adjunct faculty member since 1991. He is currently the President and CEO of Financial Education Fellowship, and served for over a decade as Director of Economic Education for the Federal Reserve Bank of Dallas.
Wayne also serves as an instructor in the Center for Biblical Stewardship and Financial Education, at Southwestern Baptist Theological Seminary, in Ft. Worth, Texas.
© 2009 by K. Wayne Hast, The Christian Economist
