A Brief History of Bad Housing-Finance Policy

The 30-year fixed rate, low-down-payment mortgage pays down too slowly for those with weak credit and volatile incomes.

Letter to The WSJ. 

"Patrick Brenner cogently argues “The Case Against 30-Year Mortgages” (op-ed, Oct. 9), but a fuller history is in order. The Federal Housing Administration began offering such mortgages for new construction in 1948 and for existing homes in 1954, not the 1930s. Its mission: “The possession of a home, free and clear of all debt at the earliest possible date, should be the goal of every American family.”

In 1954 FHA loan terms averaged 21 years, and down payments averaged 20%. Defaults rounded to zero, and mortgage burning was common. The intense period of liberalization of loan terms that began that year was the result of federal monetary decisions made to help finance World War II. The Federal Reserve was pressured by the U.S. Treasury to buy, if necessary, sufficient debt to keep the prices from falling below par. This kept rates fixed and low, and FHA rates averaged about 4%.

The Fed soon rebelled and entered into an accord with the Treasury, which transferred rate-setting policy back to the central bank. This led to Chairman William Martin’s quip that he was “in the position of the chaperone who has ordered the punch bowl removed just when the party was really warming up.”

The Fed did remove the punch bowl and both Treasury and mortgage rates began to rise. Congress increased FHA loan terms and reduced down payments through the 1950s to keep monthly payments roughly unchanged. By 1959 FHA loan terms had risen to 27 years, and down payments dropped to 10%. Default rates began to balloon within a few years.

The truth is that the 30-year fixed rate, low-down-payment mortgage pays down too slowly for those with weak credit and volatile incomes. These same borrowers have a history of buying late and exiting early given the cyclical nature of the housing market. Since they lack the staying power that shorter loan terms would provide, they have a hard time accumulating generational wealth from home ownership. Every year from 2000 to 2009 at least 20% of FHA first-time buyers were reportedly unable to sustain ownership, either defaulting or returning to renting for at least three years.

The law of supply and demand dictates that easing credit during a period of short supply—a seller’s market—gets capitalized into higher home prices. As Fed Chairman Eccles warned Congress in 1947: “If [expanded credit] calls forth more production it will be desirable. If it only permits one borrower to bid against another would-be buyer for scarce goods & thus adds to upward pressure on prices, it is dangerous.”

During the pandemic, the Fed ignored Martin and Eccles when it pushed 30-year mortgage rates below 3% through quantitative easing and kept them there for way too long. The result was as predicted: exploding home prices and growing housing affordability.

Ed Pinto

American Enterprise Institute"