The mortgage finance system in the United States has changed since the Great Depression era in some ways, yet at the same time it is still very similar. The system relies on a process where lenders are able to get cheap credit and subsequently offer loans at variable rates to consumers who do not have good credit ratings themselves. As these variable rate loans began to become higher, defaults on mortgage payments increased and eventually led to the lenders repossessing these toxic assets. The mortgage finance system during the Great Depression and the subsequent crash of the stock market is slightly different.
Credit was offered at very low rates, yet consumers did not invest in homes, they invested in the stock market. As consumer confidence in the stock market began to fail, the stock market began to slide, causing a massive fire sale of shares at a very low value compared to their original purchase price. U. S citizens lost huge amounts of money overnight, which is different to this current economic crisis, where customers have lost value in their homes, instead of their stock market investments.
Some of the features and mechanisms that have led to the current subprime mortgage crisis surround the way the credit market works, and how the products are sold. Credit was offered to consumers that were backed by numerous inter-bank loans. When the customers began to default on loans secured against their houses that were falling in value, the knock on effect that banks could not repay these loans to other banks occurred, forcing the cost of credit between banks and subsequently onto consumers, to rise sharply.
Hence refinancing became very difficult for many low income families, as well as for the banks who could not borrow from other banks at low rates any more. There are both similarities and differences between the Great Depression and the current economic downturn, due to many factors that have been outlined. The source of the problems are different, during the 20’s it was the stock market and during the recent problems it has been the mortgage market that is responsible, however the outcomes are the same, less credit availability, and higher interest rates to consumers if credit is made available.