Secret #58 – From 2018 to 2021, Interest Rates Fell So Much We Could Have Converted From 30-Year Mortgages to 20-Year Mortgages Without Increasing Monthly Mortgage Payments
The 30-year fixed-rate mortgage interest rate fell from 4.94% in November 2018 to 2.65% in January 2021. That decline was so large, we could have changed the standard U.S. mortgage from 30 years long to 20 years long without increasing monthly principal and interest mortgage payments!
In a little over 2 years, we could have gone back to 20-year mortgages like we had during the post-World War 2 housing boom.
In reality, when rates fell from late 2018 to early 2021, the lower mortgage rates let house buyers borrow a lot more money with the same monthly mortgage payments. (See graph below.) It doesn’t take a whole lot of aggressive buyers – who can now borrow a lot more money – to bid up house prices for everyone.
As mortgage interest rates fall, the amount of money chasing houses increases. But as house prices increase, monthly mortgage payments also increase.
Monthly payments can end up increasing back to where they started from before mortgage rates fell. If house prices gain a lot of upward momentum, they can easily overshoot on the upside and monthly payments can end up going even higher than they were before mortgage rates started to fall.
The benefits to home buyers of lower mortgage interest rates are short-lived. The resulting higher house prices are longer-lived.
Instead of letting lower mortgage interest rates drive up house prices for all future house buyers, we could have theoretically shortened mortgages by 10 years for all future house buyers – with the same monthly mortgage payments.
When interest rates fall, can we automatically reduce the length of government-backed mortgages instead of having all of the decrease in rates going to increase the amount of money home buyers can borrow? That just causes house prices and mortgage debt to increase. It could take a decade or more but we could do it by shortening mortgages whenever interest rates fall until mortgages are back to 20 years long.
From 1990 through 2020, about 80% of house price appreciation was due to falling interest rates. If it turns out mortgage interest rates bottomed out in 2021, house price appreciation will likely be much less and most home equity in the future will come from paying off your mortgage instead of appreciation, and 20-year mortgages would increase U.S. household wealth a ton over time.