from the Richmond Fed

-- this post authored by David A. Price and John Walter

A number of federal government initiatives in the United States have sought both to make home mortgages more broadly available and to increase the availability of features rendering those mortgages more affordable to borrowers, such as lower interest rates, long-term fixed rates, and lower down payments. Most notable among these initiatives have been the government-sponsored enterprises (GSEs) Fannie Mae, created in 1938 in response to the Great Depression, and Freddie Mac, established in 1970.

In the period prior to the advent of Fannie Mae, private activities played an important role in improving the affordability of U.S. mortgage markets, likely lowering interest rates as well as producing more favorable non-interest terms. Two examples of such activities are mortgage-backed securities (MBS) that arose in the late nineteenth century and the building and loan associations that first appeared in the early nineteenth century. Both of these financial arrangements were modeled after similar ones that appeared previously in Europe. In addition, large life insurance companies competed with other institutions for home mortgage lending business and grew to become important nationwide mortgage lenders between the 1880s and 1920s.

These historical activities of the private sector are of interest in two respects. First, they reflect a range of responses to the classic tension in mortgage lending: seeking the benefits of portfolio diversification and efficiencies of scale by pooling risks across regions, on one hand, versus seeking the benefits of local market knowledge and more effective oversight of agents by lending on a local scale, on the other. The GSEs have sought to manage this tension by combining national-level portfolios with measures such as imposing standardized underwriting requirements and demanding representations and warranties from mortgage originators. In addition, the implicit public guarantee of the GSEs may have helped them paper over the tension to some extent until the crisis of 2007 - 08. Historical private-sector responses to the tension prior to the GSEs and prior to the emergence of sophisticated information technology that has facilitated national level mortgage lending and securitization may be instructive. As will be seen, these private-sector institutions were not wholly successful in addressing the tensions either.

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