The Importance of Homeownership
Part 1: The Past
Throughout the past 100 years, there have been claims that the rise in the homeownership rate within the US (among other rates and statistics measured regularly), marks not only the progress and changes in the financial system, but also people’s higher socioeconomic status and better quality of life. As we mentioned in the past, homeowners enjoy economic stability since their payment plan is set up for years, all while accumulating wealth - but that’s just the tip of the iceberg, with numerous other benefits to homeownership.
Today, when homebuyers take on a home loan, we can safely say that they can:
Afford a down payment for a mortgage.
Commit to paying the monthly mortgage payment.
Pay the cost of ongoing property maintenance.
If they are willing and able to invest in housing and not just consume it the way tenants paying rent do, they are considered financially stable. Financial stability is a coveted status, these days in particular, and so by increasing the homeownership rate, you can directly contribute to the financial stability of millions of households.
According to Don Layton’s mass “The Homeownership Rate and Housing Finance Policy” (part 1), if you look back as far as 150 years, you’ll see that the homeownership rate has remained steady between 1890-1930 (46.5%) and between 1970-2022 (65%), proving itself quite resilient to many global life changing events (see chart 1). The first example is World War 1, which is barely recognizable on the graph. Another good example is the mortgage bubble that turned to the housing crisis of 2008, which seems to have had little effect on the homeownership rate coming down (and soon after going back to 65%), meaning the change wasn’t sustainable.
In order to assess how we can push the homeownership rate upward in an affordable and sustainable manner, we first need to understand the means and measures that caused the current and ever so sticky rate. This first part includes a review of the history of real estate financing and mortgage mechanics, which will help us better understand where we are today (covered in ‘Part 2: The Present’) and what we can do in the coming years to ensure that the homeownership rate will continue to grow (covered in ‘Part 3: The Future’).
A quick history lesson shows us that the origin of the real estate mortgages we know today came to life in order to offer better financing options to homebuyers, so they can establish their wealth and expand their options for the future. However, before 1929, the financial system was poorly structured, and the standard mortgage was a 5-year balloon loan backed by real estate. While this type of loan was fairly popular and helped maintain a steady 46.5% homeownership rate until 1929, it had a significant downside: since many borrowers were unable to repay the principal amount in 5 years, the system relied on loan refinancing as a source for the balloon payment at the period end. During the 1929 Great Depression, as unemployment rates soared, it was impossible for borrowers to repay the loan, and refinancing was no longer an option. That led to high default rates and to intermediaries’ failures in the financial system. The available mortgage product proved to be too risky and unable to withstand financial turmoil.
The New Deal, and specifically the Home Owners’ Loan Act, gradually led to a new mortgage product: first a 15-year, and then a standard 30-year, amortized mortgage, based on conforming terms and fixed rates. As opposed to the previous 5-year balloon mortgage, the new 30-year mortgage required no refinancing or payments at the end of the mortgage period. The fixed monthly payment, which included both the principal and the interest, allowed borrowers to manage their cash flow, and the long horizon made it much more plausible and tolerable.
But this new type of mortgage was merely the first step in the process that ushered an increase in the homeownership rate. The next step was to secure financing of long term mortgages, and thus national agencies were created to support the establishment of a secondary market. The Federal National Mortgage Association, aka Fannie Mae, was established in 1938, and by securing the 30-year mortgage it enabled the banks to increase the number of mortgages sold to the public. This was a gradual process that took time to initiate, but it can be viewed as the first actual step toward a sustainable rise in the homeownership rate.
The next step was the postwar era. It brought with it financial prosperity, which also contributed to the increase in the homeownership rate. While the revamp in financing and mortgage products offered to the public during the 1930s and onward enabled people to buy more homes, it was also the growth of the middle class (due to the benefits from the GI Bill and the increase in the average family income) that supported the rising numbers. More families were finally able to buy a home, the only remaining question was where to buy, and that’s when a new housing concept was introduced: modern-day suburbs. The development of the modern-day suburbs offered more homes to buy, and attracted millions of families.
Following 4 decades in which the average rate of homeownership rose by 20%, one could look at the last 50 years as a failed attempt to increase it even further. Another might say that the fact there was no major decline until now is an achievement on its own, but is it? This stagnant period begins right as The Federal Home Loan Mortgage Corporation, aka Freddie Mac, was established in 1970. This was a vote of confidence in the standard 30-year mortgage, and it helped turn it to the most dominant one in the ecosystem. So how come the numbers stopped rising?
Again, some may say that this is the reason the market bounced back after the 2008 recession and did not face further decline in the homeownership rate. Those who say that can argue that back then, having over 90% of the mortgages as standard 30-year mortgages helped the entire economy to gradually return to equilibrium. But what will happen now that the equilibrium is again at risk? Are we doomed to face a decline in homeownership rate now that the interest rate is on the rise and people can’t afford to take on a mortgage and buy a home? Or is it time to shift the paradigm and find a new mortgage product that will create a whole new equilibrium with a higher yet sustainable homeownership rate?
More coming in ‘Part 2 - The present’.