Social and Political Commentary

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Brother, can you spare a mortgage?

... massive bailouts of failing Homeowner Mortgages are not new to our Federal Government

by Joe Sullivan

When President Barack Obama signed into law the the housing bailout bill in mid-February it directed $275 billion toward one of the most punishing problems of the current economic downturn, the cascading foreclosures of homeowner mortgage loans.

These circumstances are starkly similar to those that existed when Franklin D. Roosevelt was inaugurated in 1933. The homeowner mortgage market had been under foreclosure pressure since the Stock Market crash in 1929. High unemployment and failing banks were combining to hit homeowners with a vicious one-two punch. Families could lose their homes because of an inability to pay their mortgage or could be taken down if the bank which held their mortgage failed.

Exacerbating the crisis was the mortgage system. Home mortgages required down payments of 35% and had to be repaid over a span of five to ten years at interest rates of 8%.

The Federal Home Bank was established by President Herbert Hoover in 1932 to provide funding for firms that lent to the housing market. It did not remedy the situation. A new agency created by the newly-elected Roosevelt administration would deal with the troubled mortgage market in a very different way. This new agency, the Home Owners' Loan Corporation (HOLC) would deal directly with borrowers. As part of one of the many agencies created by FDR’s New Deal the Home Owners Loan Corporation (HOLC) was established by Congress in 1933.

Mortgages limited only to those in trouble

The agency's  purpose was to refinance homes and prevent foreclosures. It was limited to making new loans for a two-year period and these loans were to be limited to mortgages that were in default or that were held by financial institutions which were in distress.

The Treasury funded the HOLC with $200 million and gave it power to issue bonds for another $3 billion. These funds would be used to refinance first mortgages on homes valued up to $20,000.

The agency bought up the failing mortgages from existing lenders with government bonds which paid tax-free interest. It usually didn’t pay full value for the failing mortgage but the lender wasn’t unhappy to exchange a troubled mortgage already in arrear.

The new, HOLC mortgage was significantly different from the 8%, five to ten year mortgage it was replacing. HOLC mortgage-interest rates were 5% and the payment period was spread out over fifteen years. It was issued directly to the homeowner who was borrowing directly from a federal government agency.   

In C. Lowell Harriss’s book “History and Policies of the Home Owners’ Loan Corporaion” considered by many to be a definitive work on the agency describes some very interesting facts about the agency and its customers.

Start-up brings huge problems for new agency

HOLC had a difficult time in assembling a staff to start work. It required specialty occupations such as appraisers, but by June 1933 HOLC was accepting loan applications, and by 1934 over 400 HOLC offices were spread throughout the country and accepting applications.

To get qualified people HOLC both trained and supervised appraisers. Most of them worked part time. The system that HOLC developed is credited for raising real estate appraisal methods. An element that was added to the process was to obtain a credit report on the reputation of the loan applicant.

Monthly income of the families which were applying for the loans was between $50 to $150. Seventy-five percent of the loans were for less than $4,000 which was, on average, 69% of the appraised value of the property. The average closing cost was $39.

HOLC initially was mandated to issue new loans for a period of two years. It would, of course, have to stay around to service them. Between June 1933 and June 1935 HOLC received applications for almost 1.9 million loans totaling $6.2 billion of home mortgage refinancing. Not everyone qualified. Half of the applications were either rejected or withdrawn. The final value of the one million plus mortgages that were issued was $3.1 billion.  Eventually, on a countrywide basis one out ten non-farm owners of occupied dwellings and one out of five mortgage dwellings received HOLC financing aid.

Ongoing infusions of Treasury cash not needed as HOLC borrows in the financial markets

All the money used in the loans didn’t come from the Treasury. HOLC was able to take advantage of the very low interest rates which were available in the marketplace. The 5% rate it was charging for the mortgages coupled with the low interest rates for the money it borrowed enabled it to operate without deficit.

HOLC’s loan-servicing methods were very lenient. Agency representatives would intercede when a borrower would become two or three months behind in payments. The HOLC rep would help the borrower find ways to adjust to the circumstances. This included adding amounts in arrears to the remaining balance to help avoid foreclosure. Borrowers who displayed good faith were treated leniently.

Even with its easy-going approach it was necessary to foreclose on a large number of HOLC loans. Many of the loans had been in arrears for long periods, 56% of them, according to Mr. Harriss for 118 months or more. In 1939 Congress helped by passing the Meade-Barry Act which allowed HOLC to add as much as ten years to the original fifteen-year loan life. By the end of 1942 only 30% of the loans were granted extensions. The reason for this low participation was that most borrowers failed to request the extension.

Foreclosures become a problem for HOLC  

Foreclosure rates differed by state. Mountain and Pacific states averaged about 11%, Massachusetts was one of the worst with over 40% foreclosed. According to Harriss, HOLC felt that only a small minority of the foreclosures were the result of economic conditions making it too difficult for the home owner to meet his obligations. HOLC felt it was the borrower’s lack of determination to make the effort was the main cause of defaulting.

Because of defaults HOLC ended up with nearly 200,000 houses by the end of 1937. It was a huge problem for the agency. Each property was reconditioned at HOLC’s expense and local real estate brokers were retained to help with reselling these properties. Many of the homes were rented until they were sold. No effort was made to sell the houses at distressed prices.

Although HOLC was supposed to stop lending to new applicants by 1936, the prospective buyers for these foreclosed homes were offered HOLC financing terms which were better than those available in the marketplace. By 1940, two thirds of all these properties were sold. The sale price was equal to 93% of the original amounts.

In addition to lending for distressed mortgages HOLC also issued supplemental loans for home reconditioning. Even though over half of the applications were rejected by the end of June 1937, four out of ten HOLC borrowers received supplemental reconditioning loans.

HOLC was established to be a temporary entity which was to be abolished after it fulfilled its purpose. The agency folded its tent in 1951 which was fifteen years after its last mortgage (issued in 1936) was paid off. When it was created it was thought by many that it would not only lose money, but lots of it. When it stopped its operation in 1951 not only had it not lost money, it returned a surplus of $14 million to the Treasury.

HOLC emerges from obscurity when housing market crisis deepens in 2008

By 2008 Home Owners Loan Corporation should have been long forgotten. Its youngest borrower was 35 years old in 1936 when he received his mortgage. If he were still alive in 2008 he’d be 107 years old. With no original borrowers left it must have been a surprise to many when stories about the agency, written by some prominent individuals, began to appear in some equally prominent publications in early 2008. This was when the unraveling of the housing market  was gaining attention but before the Stock Market went into free fall

Alan S. Blinder‘s story appeared in the New York Times in late February. Alex J. Pollack‘s story appeared in the Washington Post two weeks later. Much later in September Senator Hillary Rodham Clinton‘s story appeared in the Wall Street Journal. All three stories extolled the HOLC.

It’s not such a surprise that both Senator Clinton, a Democrat then running for President and Professor Blinder former Vice Chairman of the Federal Reserve and an advisor to many Democrat presidents would be praising a New Deal program. Mr. Pollack, however, is a resident fellow at the American Enterprise Institute, a conservative think tank, which does not ordinarily champion government intervention into the private markets.  All three people cited HOLC as a program that had been successful.

By today's standards HOLC's mortgage amounts seem puny: 75% of the loans were for less than $4,000. But Professor Blinder points ot that HOLC's lending over its lifetime would be equal to 5% a year's gross domestic product at that time. A corresponding number today would be $750 billion. Mr. Pollack in his story said that mortgages issued by HOLC would, in today's terms, account for about 10 million loans with an outstanding value of $1.4 trillion.

Writer's Commentary

Home Owner's Loan Corporation had some interesting characteristics. It was a "Big Government Program." Created by Congress in 1933 it intervened directly into the mortgage market. It did not interface with lenders, it replaced them. HOLC lent directly to the borrowers, without any intermediaries.

HOLC was "funded with government money." It drew $200 million from the U.S. Treasury and was authorized to issue bonds for $3 billion more.

It was a "Massive Bureaucracy." In its heydey HOLC employed 20,000 people operating out of 400 offices across the nation. One out of ten non-farm occupants and one out of five home-mortgage owners received HOLC financial aid.

In its loan servicing HOLC operated with a "Big Brother attitude." Borrowers in arrears were personally contacted by HOLC representatives to help keep them from failure.

HOLC was involved in a "massive failure." It ended up with over 200,000 properties because of foreclosures.

In summary, you will not fall short of political pejoratives in describing HOLC.

On the other hand, there were some solidly business-like qualities demonstrated by HOLC. It was judicious in granting loans, almost half of loan applications were denied or withdrawn. It selected and trained people to become appraisers and developed procedures that raised the level of appraising methods.

When properties were foreclosed they were not abandoned to become derelict. HOLC hired private contractors to recondition them. The reconditioned homes were often rented while private real estate brokers attempted to sell them. The homes were not sold at distressed prices which would have depressed the prices of other homes in the neighborhood.

Very significantly, HOLC did not require ongoing infusions of government money to continue operating. It borrowed money in the commercial markets and was able to pay it back from its own revenues.

HOLC, additionally, established a successful business model for home mortgages by offering loans at low interest rates for borrowing a principal that could be paid back over a long period of time. The secret seemed to be that the resulting monthly payments were affordable.

HOLC was not a government program that, once established, never went away. It was limited to operating as a money lender to two years. It stayed around afterward to service the loans it had extended. It shut down in 1951, passing back a surplus of $14 million to the Treasury.

Probably, most importantly, HOLC did what it was established to do. In a housing market where foreclosures were in accelerating freefall, its actions brought stability. It provided the evidence necessary to stop the foreclosure avalanche...the hundreds of thousands of families who were kept from losing their homes.

Today we find ourselves in a crushing ecomomic atmosphere where government is being charged with the responsibility of leading us out. We want it to fix the banks, stimulate the economy and stabilize the housing market. We look for the confidence that comes from the belief that the government can and will provide ways to do these things.

For a long time now we have been operating with a politically-generated perception that "government is the problem." Maybe it will be helpful in restoring a measure of our confidence to look at the HOLC program. It is evidence that government not only wasn't the problem but, instead, it was the solution.

March 6, 2009

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