During the Great Depression, the banking system failed, causing a drastic decrease in home loans and ownership. At this time, most home mortgages were short-term (three to five years), no amortization, balloon instruments at loan-to-value (LTV) ratios below fifty to sixty percent. The banking crisis of the 1930’s forced all lenders to retrieve due mortgages. Refinancing was not available, and many borrowers, now unemployed, were unable to make mortgage payments. Consequently, many homes were foreclosed, causing the housing market to plummet. Banks collected the loan collateral (foreclosed homes) but the low property values resulted in a relative lack of assets. Because there was little faith in the backing of the U.S. government, few loans were issued and few new homes were purchased.
In 1934 the federal banking system was restructured. The National Housing Act of 1934 was passed and the Federal Housing Administration was created. Its intent was to regulate the rate of interest and the terms of mortgages that it insured. These new lending practices increased the number of people who could afford a down payment on a house and monthly debt service payments on a mortgage, thereby also increasing the size of the market for single-family homes. (Garvin 2002)
The FHA calculated appraisal value based on eight criteria and directed its agents to lend more for higher appraised projects, up to a maximum cap. The two most important were "Relative Economic Stability," which constituted 40% of appraisal value, and "Protection from adverse influences," which made up another 20%.
Data on the geography of actual FHA loans was mostly kept secret, but when data has been released, scholars have found that FHA's generous programs were targeted disproportionately and almost exclusively to white Americans building homes in suburbs. Between 1935 and 1939, 220 out of 241 loans in St. Louis (91%) were located in the suburbs. From 1934 to 1960, the county of St. Louis received five times more FHA loans than the city of St. Louis, despite greater economic need in the city. Similarly, the average resident of Bronx County New York received just $10 in home mortgage loans from the FHA during its first 25 years, while the average resident in the wealthy Nassau County received $601 (Jackson 1985, Chapter 11).
Overall, the FHA has been accused of an anti-urban bias, and its practices precipitated the decline of many important American cities, by subsidizing the departure of white middle class Americans and refusing to give nearly as many loans for rental units, which would have been necessary to house low income workers. In 1968, Senator Paul Douglas of Illinois summed up the federal role in home finance: "The poor and those on the fringes of poverty have been almost completely excluded" (Jackson 1985, Chapter 11).
