How the Mortgage Industry Was Built: Part 1

In the beginning, the US economy was a disorganized mess. Monetary policy was loose and wild, and the US had absolutely no financial safety net. So when the Great Depression struck, the country was dazed, like a fish bludgeoned to the back of the head. Homeowners had to forfeit their homes by the hundreds of thousands, banks were stressed to full capacity, and our national economy faced a near total collapse. In some cities, such as Toledo, Ohio, unemployment raged upwards of 80%.

The Great Depression was caused by a number of things. Mainly, America’s obsession with keeping up with the big boys in Europe as the world powers struggled to keep the gold standard alive. The reason the US economy was failing at the time, was because of erratic monetary policy. The gold standard, a monetary system first used by England in 1831, caught like wildfire across Europe—the countries that could afford it anyway.

The Gold Standard: Turning Gold Into Paper

The gold standard depended on a country’s gold reserves. Countries that used the gold standard set a fixed price for gold, and then bought and sold it at that price. This value was then used to back a country’s paper currency. The point of this was to try to make international trade more efficient, since transporting heavier money, such as gold or coins, significantly delayed business overseas. I’m sure that if the businessmen back then could see us now, their jaws would drop at the thought of Venmo, Zelle or Apple Pay.

By directly linking their currencies to the price of gold, countries ended up having to regulate their economies according to how much physical gold could be found in the country, lowering and raising wages and interest rates so often and so unpredictably, that it left markets rattled and weakened.

It was because of this that the US learned (the hard way) that it needed a back-up plan in case it ever had to face a major recession. The lessons from the Great Depression were seared into national memory when the gold standard went haywire. The worst recession in our history sunk its teeth into the country—down to the bone.

At the time, there weren’t any banks large enough to help bailout the US. Even though the Federal Reserve had been around since 1913 as the country’s federal and central bank—it was still too new and too unstructured to have the funds to create a national failsafe.

Deflation and Inflation During the Great Depression

In a lot of ways, economic policy during the ‘30s was more emotional than rational. Even after the Federal Reserve was created, the US misused its authority, altering interest rates to keep the gold standard kicking and screaming, rather than focusing on strengthening US employment and helping everyday Americans.

During the deflationary shock of 1929, Hoover’s Secretary of the Treasury, Andrew Mellon, advised the President to “liquidate labor, liquidate stocks, liquidate the farmers, liquidate real estate… purge the rottenness out of this system” because “people will work harder, and live a more moral life”.

However, this unforgiving puritanical approach to policy had the opposite effect. Because the administration put the responsibility of adapting to the gold standard on everyday people rather than enacting monetary policy that would support and house Americans, there was a lot of confusion. People waited for things to stabilize, terrified that their savings were worth nothing—that this really was all just a simulation outside of their control.

Meanwhile, the government waited for consumer confidence to go up, for people to spend and sell and go about their business with intention. When that didn’t happen, and the economy tanked, President Hoover decided to artificially inflate the economy by raising wages in order to fight off deflation. Hoover made sure to keep wages high in order to not eat into the buying power of US citizens, and forced costs to stay low. But we all work, and we all need to eat, and when he pushed down prices for some, it destroyed the livelihoods of others.

Two Bad Policies Sparked a Mortgage Crisis

Really, the move was like inviting ten people over for dinner on a rainy day when you really only had enough chicken broth for one person; and then watering it down to stretch the meal. It’s enough to say that not only did the stock of American money lose flavor—it had absolutely no nutritional value whatsoever.

As wages remained high and prices suspiciously low, an economic bubble was forming, wearing down the country’s financial health from the inside. The high wages and deflation were a band-aid solution that didn’t last very long. Under a false sense of security, credit was given out freely, lending was lawless, and when the time came to start paying loans back, nobody had the money to do it.

In the end, the reasons for the economic bubble that caused the Great Depression were twofold. Hoover’s orders to keep wages high were at odds with the need to keep consumer prices low in order to maintain the gold standard. This catch-22 caused national confusion and failure. What followed were years of high inflation and deflation, market crashes, and some of the darkest times the US has ever seen.

So, what led us out of the Great Depression and towards a brighter housing future? The answer starts with the Home Owners’ Loan Act of 1933.

Home Owners’ Loan Act (1933)

In 1933, as mortgages folded left and right, the US government issued the Home Owners’ Loan Act of 1933. The Act created the Home Owners’ Loan Corporation, otherwise known as HOLC, to save homeowners from foreclosure. From 1931 to 1935, it was estimated that about one million foreclosed mortgages were bought by HOLC and were re-issued and resold to their initial owners as 20-year fixed rate loans. Yes, you read that right! Mortgages used to have much shorter time spans.

Unlike the 30-year fixed rate mortgages of today, the mortgages available back in the ‘30s were from five to ten years, similar to buying a car today. They required high down payments of up to 50%, and all had variable mortgage rates. That meant that homeowners had to refinance their mortgage interest rate every single year.

Can you imagine having to walk into your local bank once a year, teeth gritted and wallet tight, wondering if you’d be able to afford the interest rate on your loan that year? Neither can I. And apparently, neither could they.

As the Great Depression smothered the US economy, people simply stopped seeing the point of trying to keep their homes. Keep in mind that from the ‘20s to the ‘30s, the US was in a bad place. Things were so unregulated that iodized salt, which was introduced to fix a national epidemic of nutritional deficiencies, had only recently been introduced in 1924.

What I’m trying to say is that basic survival and food on the table, some money in your pocket, was more pressing at the time than owning a home.

But the new President who replaced Hoover, Franklin Delano Roosevelt, saw hope in housing; and HOLC, while a temporary solution, set in motion a new era to unify and regulate the economy of the country—one mortgage at a time.