Could 50% of All Homes End Up in Foreclosure?
Just how bad could the housing bust get? How about half of all urban homes being in foreclosure? As stunning or unbelievable as that may sound, it already happened once in the U.S., in the Great Depression, as documented in this report: Lessons from the Great Depression (St. Louis Federal Reserve).
Though history doesn’t repeat, it certainly echoes, and the parallels between the present and 1934 are particularly sobering. The only “missing ingredient” to a full-blown depression is job loss/income contraction, and many of us foresee a long, painful wave of lay-offs and downsizing on a global scale just beginning.
How did half the nation’s urban housing end up in foreclosure? All too easily, it seems; eerily, the slippery slope seems remarkably like the present:
# As people bought into a long real estate boom, they leveraged/borrowed vast sums of new debt.
# Lending standards and money tightened as property values fell, effectively cutting off refinancing debt as an escape route.
# As income and property values both fell in a deflationary spiral, the relative burden of homeowner debt increased sharply.
# Unable to refinance or make their mortgage payments, homeowners defaulted en masse.
Here are excerpts from the report:
A study of 22 cities by the Department of Commerce found that, as of January 1, 1934, 43.8 percent of urban, owner-occupied homes on which there was a first mortgage were in default. The study also found that among delinquent loans, the average time that they had been delinquent was 15 months.
Among homes with a second or third mortgage, 54.4 percent were in default and the average time of delinquency was 18 months. Thus, at the beginning of 1934, approximately one-half of urban houses with an outstanding mortgage were in default (Bridewell, 1938, p. 172).
For comparison, in the fourth quarter of 2007, 3.6 percent of all U.S. residential mortgages and 20.4 percent of adjustable-rate subprime mortgages had been delinquent for at least 90 days.
Although the nominal value of mortgage debt peaked in 1930 and then declined, deflation caused the real value of outstanding mortgage debt to continue to rise until 1932.
Thus, consistent with Fisher’s (1933) classic “debt-deflation” theory, the burden of outstanding mortgage debt increased sharply during the contraction phase of the Great Depression and economic recovery did not begin until the real value of outstanding debt had begun to decline.
A rising level of debt does not necessarily pose a problem for households, so long as household incomes and wealth are sufficient to make loan payments. However, household incomes and wealth declined rapidly during the Depression.
