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For Release on Delivery
Wednesday, May 29, 1968
9:00 a.m., E.D.T.




Andrew F. Brimmer
Board of Governors of the
Federal Reserve System

Before the

74th Annual Convention of the
Pennsylvania Bankers Association

Chalfonte-Haddon Hall
Atlantic City, New Jersey

May 29, 1968


Andrew F. Brimmer

As frequently happens when market processes are subjected
to statutory regulation, the attempts by the Federal and State governments to fix the maximum rates of interest which lenders can charge
on residential mortgages-have produced effects the reverse of those

usury laws, originally designed to protect individual

borrowers, have increasingly prevented these potential borrowers from
obtaining mortgage funds.

While most public attention has been focused

on the adverse effects of statutory ceilings on Federally underwritten
mortgages, many State-imposed ceilings also severely limit the access
of homebuyers to mortgage funds in a number of areas.
In the last few years, and especially in the wake of the
severe difficulties experienced by the homebuilding and financing
industries during the period of monetary restraint in 1966, a major
effort has been launched, on both the Federal and State level, to
moderate the rigidities of statutory ceilings on mortgage interest

This effort has achieved varying degrees of success.


limits on FHA and VA mortgages have been suspended temporarily, and
in a number of States maximim rates have been raised.


^Member, Board of Governors of the Federal Reserve System. I wish
to express my appreciation to Mr. Robert M. Fisher of the Board's
staff for assistance in the preparation of these remarks.
Note: Most arguments and data presented in this paper refer to home
mortgages, and multifamily mortgages involving borrowers other than
corporations, which are usually excepted from State usury ceilings,
but not Federal ceilings.

• 2as market interest rates (including rates on residential mortgages)
have continued to rise under the impact of growing credit demands
during the current period of monetary restraint, usury ceilings remain
a serious obstacle to the flow of mortgage funds in some States.
Moreover, in several important geographical segments of the mortgage
market, maximum rates are still generally frozen at the extremely
unrealistic ceiling of 6 per cent.

Thus, the task of coming to grips

with the problems posed for housing finance by out-dated statutory
interest rate ceilings are still before us.
The principal points of these remarks can be summarized


The inherent deficiencies of the residential mortgage
as a capital market instrument are compounded by rigid
statutory ceiling on interest rates which lenders can


Statutory interest rate ceilings, whose roots are deeply
imbedded in historical experience, are so low in a number
of States that they pose a serious obstacle to the
functioning of their mortgage markets.


The adverse effects of usury ceilings -- while most
evident in the behavior of lenders ~ are particularly
harsh on builders of new houses and on owners of existing
homes. These effects can be seen most clearly in the
case of FHA and VA underwritten mortgages, where discounts
provide a sharp and readily measurable indicator of the
impact of inflexible rate ceilings.


The recent moves to suspend statutory ceilings on FHA
and VA mortgages and to raise ceilings in several States
have been only partially successful. Discounts are again
sizable on FHA and VA mortgages, and newly-raised ceilings
in a number of States are again interfering with the flow
of mortgage funds.


Thus, there is still a major job ahead if we are to
develop a mortgage market capable of meeting the expanding demands for residential finance.



Structural Defect in Mortgage Financing
The deficiencies in mortgages generally -- and in residential
mortgages particularly -- which make them a special type of financial
asset are widely known.

However, it may be well to remind ourselves

again that a substantial part of the obstacle to the development of
a truly viable mortgage market arises from the characteristic of the
instrument itself. Furthermore, some policies and regulations affecting
Federally-underwritten mortgages have also helped to give mortgages
a special standing (not always beneficial) in the capital market.
Most varieties of debt instruments other than mortgages are
relatively homogeneous within broad categories.

For example, investors

normally accept corporate bonds of the same maturity and quality rating
as reasonably close substitutes — with relatively small change in
yield differentials required to encourage substitution.

In contrast,

mortgages are differentiated in so many ways -- by maturity, credit
worthiness of the borrower, legal requirements of the State in which
the property is located, etc. -- that they clearly are not interchangeable.

Federal guarantees and insurance tend to add homogeneity.


ever, while less than one-fifth of all residential mortgages on new
homes in the period 1963-66 had such protection, the proportion has
declined further in 1967-63.

Moreover, additional fees and rate

limitations have also tended to reduce the effectiveness of efforts
to create a genuinely competitive, nationwide financial asset out of
the residential mortgage.


4The institutional structure of mortgage markets has also

limited the ability of the mortgage to compete with other financial

Undoubtedly, one of the most serious obstacles is posed by

Federal and State statutory ceilings.

Interest rate limitations on

mortgages established by such statutes inevitably make mortgages noncompetitive in periods when generally rising interest rates force
yields on market securities up to or beyond the statutory ceilings.
While discounts can increase the yield on mortgages, many lenders find
the use of discounts a difficult procedure for technical and other

Moreover, both laws and administrative regulations inhibit

their use, and the impact on the cash position of the seller or
builder is often so large that it further reduces the use of discounts.

Origins and Scope of Statutory Interest Rate Ceilings
Interest charges have been made since ancient times, and
the efforts to regulate such charges are equally ancient.


the practice of charging interest on loans fell into disrepute quite
early after it began; undoubtedly this was partly because interest
rates were high and penalties for default were heavy.
The historical record (from ancient Greece, through the
Jews, to the Christian Church, to the secular authorities in Europe
and to the American States today) is replete with efforts to prohibit
or regulate interest charges -- which almost from the very beginning
became known as "usury11.

Over time, however, the authorities began

to distinguish between low interest rates and high interest rates --



with the concept of usury being reserved for the description and
condemnation of high interest rates.

On the basis of this distinction,

England in 1545 eliminated the prohibition on usury and established
a legal maximum interest rate*

Other countries followed this example.

Over the years, however, Great Britain ceased fixing legal interest
rates, and left it to the courts to determine whether a rate is
In this country, it was the States —
ernment —

not the Federal Gov-

that followed the legacy stemming from the English action

of the sixteenth century.

In general, States fix a legal rate at

which debts may be assessed after they have become due and remain
unpaid, and they also fix the maximum rate permitted in a contract.
With the advent of the Federally-underwritten FHA and VA mortgages,
the Federal Government did become involved in the making and administering statutory ceilings on mortgage rates.
Today, 46 of the 50 States have established statutory
ceilings on mortgage interest rates.

As shown in the table on the

following page, if we put aside the four States which permit any rate
to be charged, the vast majority of the States have set ceilings in
the range of 7-8 per cent and 10-12 per cent.

However, four States

(New Jersey, Tennessee, Vermont and West Virginia) have established
ceilings as low as 6 per cent.

Moreover, at the beginning of this

year, four other States (Delaware, Maryland, Pennsylvania and
Virginia) the maximum rate to 6 per cent.

• 6State Statutory Ceilings on Contract Interest Rates on Home Mortgages
May, 1968
Rate Ceiling
(Per cent)

Number of

Any rate


Connecticut!/, Maine,
Massachusetts, New Hampshire.



Rhode Island.



Colorado, Hawaii, Nevada,






15 and D. C.


Names of States

Arkansas, California, Florida,
Kansas, Montana, New Mexico,
Oklahoma, Oregon, Tex
Texas, Utah,
Wis cons in!' > Wyoming.
Alabama, Alaska, Arizona,
Delaware!/, District of Columbia,
Georgia, Idaho, Indiana,
Louisiana, Maryland^', Minnesota,
Mississippi, Missouri, Ohio,
South Dakota, Virginia.


New York*/


Illinois, Iowa, Kentucky,
Michigan, North Carolina, North
Dakota, Pennsylvania, South
New Jersey, Tennessee^, Vermont,
West Virginia. (In Tenn. and
U. Va., S & L f s may charge a
premium above the limit.)


On loans of $5,000 or less, the maximum rate is 12 per cent.


The State legislature on May 23 passed a bill for the rate to go
from 6 per cent to 3 per cent.


As of July 1, 1963.


The State legislature on May 21 passed a bill to give the State
Banking Board the discretion to set the rate between 5 per cent
and 7-1/2 per cent.


On loans exceeding $50,0^0, the maximum rate is 7-1/2 per cent.

Note: In many States with ceilings, FHA-insured and VA-guaranteed
mortgages are excepted.


7As one examines the geographical pattern of mortgage rate

ceilings, it is easy to discern the broad outlines of a mechanism
designed to attract funds from surplus savings areas to capital deficit

Leaving aside New England (where apparently steps to free the

mortgage market were undertaken years ago), it is evident that State
statutory ceilings were set in the East at a fairly low 6 per cent,
reflecting the sizable volume of savings generated in this area over
the years.

The advanced degree of industrial development, the high

ratio of savings to personal income, and the growing stock of wealth
of households —

all supported the evolution of strong financial

The latter in turn were able to mobilize savings in

substantial volume to be invested in their immediate areas or channelled
into distant regions where the demand for funds greatly exceeded the

The regions facing the greatest capital shortage were the

South and West, with the Mid-West falling between the two extremes.
Thus, again leaving aside New England, as one generally fans out from
the Middle Atlantic region, the contours of mortgage rate ceilings
rise in a fairly regular pattern.

While valleys appear in several

instances, the average of the maximum rates is definitely higher the
farther out one travels.
Unfortunately, the older eastern regions are no longer
blessed with as large a volume of excess savings as they were in the

With the strong demands for funds -- demands arising from the

large and persistent deficit in the Federal budget, from State and
local governments, from corporate borrowers, from foreign borrowers,

• 8as well as from households competing for mortgage funds —


intermediaries in these older regions of the country are behaving in
exactly the way one would expect them to behave:

they are investing

their funds where they can obtain the highest returns.

In the process,

mortgage borrowers in a number of States are attracting a declining
share of the total savings flows.

Adverse Impact of Statutory Rate Ceilings
Lo\7 statutory interest rate ceilings affect the home mortgage
market adversely by reducing the demand for credit as well as the supply
of funds.

This in turn means reduced activity in homebuilding and in

the transfer of existing dwellings.

These adverse effects can be

traced in the behavior of lenders, of builders and of households.

The principal reaction of lenders to low rate

ceilings is to reduce the supply of new commitments.

As one would

expect, as market interest rates (including those on mortgages) converge
on statutory ceilings, domestic lenders tend to reduce in-State lending
and to expand the investment of funds out of State.

At the same time,

low rate ceilings discourage in-State lending by out-of-State institutions.

In general, such ceilings divert funds to investments whose

yields are more free to move in response to market forces.
This pattern of reaction was amply illustrated by the behavior
of New York City savings banks. In view of the 6 per cent ceiling (which
has been in effect until now) in New York State, savings banks have been
investing an increasing proportion of their funds in properties in other
States and in high-grade corporate bonds.

This is clearly understandable



when the maximum of 5 per cent generally obtainable on mortgages
secured by properties located in New York is set against market yields
in the first four months of this year in the neighborhood of 6-3/4
per cent on out-of-State conventional mortgages and against slightly
higher secondary market yields on mortgages underwritten by the
Federal Government,

Also during the first four months of this year,

newly-issued high-grade corporate bonds have offered yields well over
6-1/2 per cent.

The magnitude of out-of-State mortgage investing that

the New York savings banks are doing was indicated in early March by
the Superintendent of Banks while testifying in support of a bill that
would empower the State Banking Board to fix mortgage rate ceilings
in line with current market yields.

He reported that in 1967 savings

banks in New York State had invested $916 million in mortgages within
the State and $1.1 billion in out-of-State mortgages.

He also reported

that there was a rising trend toward out-of-State mortgages throughout
1967, and that no reversal had occurred so far this year.

Where legal, lenders charge discounts or adopt other means
of raising the effective yield.

Expressed in the form of "points"

(i.e., a given percentage of the principal amount involved), such
discounts on FHA-insured loans provide an indication of the
market's changing evaluation of the effective rate on mortgages in
excess of the statutory ceiling.

For example, on 6 per cent, FHA-

insured loans, the market yield in April, 1967, was 6.29 per cent,
and the discount was 2.5 points.

Over the following twelve months,

as interest rates rose generally, the same category of 6 per cent,



FHA-insured loans in April of this year were yielding 6.94 per cent
in the secondary market, and the discount had risen to 7.9 points.
However, for public relations reasons, lenders are often reluctant
to make loans subject to substantial discounts.

Instead, many lenders

prefer to withdraw from the market.
Home Builders;

Other adverse effects of low statutory ceilings

during periods of rising market yields can be seen in the behavior of

The first place to look is the interaction between lenders

and builders.

During such periods, banks and other short-term lenders

reduce construction loan commitments to builders as the volume of
permanent takeout commitments from long-term lenders is cut back and
as the stiffening terms of such permanent commitments shift more of
the risk to construction lenders.
As market rates press against statutory ceilings, homebuilders
may have to absorb an increasing share of mortgage discounts in their
profits, thus weakening incentives to build.

Whenever possible, how-

ever, builders try to pass discounts along to buyers in*higher prices
or lower quality construction.

Lower-priced construction, where profit

margins are probably smaller than in higher-priced dwellings, may be
hit the hardest.

When mortgage discounts become ''excessive,11 builders

may withdraw from home construction and temporarily go out of business
or into other lines of construction activity where discounts are less of
a problem.

The impact of statutory mortgage interest rate

ceilings on individual households can be seen in the behavior of both

buyers and sellers of homes.

Homebuyers, presumably the party for

whose benefit maximum mortgage rates are set, are discriminated against
in a number of ways:

the availability of funds is reduced, and housing

prices are inflated by discounts.

Many borroxrers would be better off

financially by paying market interest rates rather than higher housing
prices, involving large doxm payments and about the same monthly housing

The range of choice of available housing is restricted by

reductions in new construction and the withdrawal of some existing homes
from the market.

And whatever volume of credit is provided by mortgage

lenders is extended on more restrictive non-rate terms than would otherwise
In circumstances where statutory ceilings generate discounts, home
sellers, whenever possible, try to pass such discounts in higher prices,
rather than absorb the amount in reduced capital gains.

Otherwise they

may temporarily x^ithdraw their homes from the market, or seek to finance
the sale through possibly higher-cost (to buyers) financing involving
the use of take-back second mortgages.

The propensity of sellers to

withdrax7 their homes from the market can be seen dramatically in the
behavior of applications for FHA insurance on used dx/ellings.

For example,

in late 1961, FHA-insured mortgages were carrying discounts of about 4
points, and insurance applications were at a seasonally adjusted annual
rate of approximately 550,009.

For almost two years, discounts fell

steadily and leveled out close to 2 points in mid-1963.

Over the same

period, insurance applications climbed steadily to around 650,000 at an
annual rate.

WJLth the maintenance of a fairly easy monetary policy

through the fall of 1965, discounts remained in the neighborhood of
2 points, and loan applications on existing homes rose further to a
peak of almost 900,000 units.

However, with the adoption of a policy

of monetary restraint in late 1965 —

which was pursued until the fall

of 1966 -- discounts rose sharply and reached nearly 7-1/2 points in
the third quarter of 1966.

Under the market pressures implied by such

deep discounts, loan applications T*ere cut by more than half, dropping
below some 400,000 units at an annual rate.

The relatively easy monetary

policy of 1967, brought a noticeable decline in discounts to about
2.5 points by April, and loan applications recovered to an annual rate
of about 700,000.

But this respite was short-lived.

The strong

competition for long-term funds (particularly from corporations) put
new pressure on market yields as the year progressed, and discounts on
FHA insured mortgages again rose steeply.

By April 1963, such discounts

had reached about 7.9 points, and loan applications on existing houses
had fallen below 600,COO at an annual rate as sellers progressively
withdrew their homes from the market.
In many cases, rather than withdrawing their homes, sellers
try to bury the discount in a higher price.

Actually, he gains little

by such an effort, because any real estate brokerage fee is calculated
on the total price.

In fact, the seller1s net proceeds would be somewhat

lower under these circumstances than would be the case if no discount
were involved and capitalized.



ftecent Developments in Ceilings on Mortgage Rates
The types of behavior examined above were responsible for
much of the frustration -- on the part of lenders, builders, and households —

which stimulated the recent efforts to modify mortgage statutory

ceiling laws at both the Federal and State levels.

Federal action

involved Congressional passage of PL 90-301 -- and Presidential
approval on May 7 —

which suspends temporarily (until October 1, 1969)

statutory limits applicable to interest rates on all FHA and VA market rate
mortgage programs.

The limits had been 6 per cent on home loans and

from 5-1/4 to 6 per cent on multifamily loans.

In addition, the

legislation raised the permanent ceiling on all market rate multifamily
programs to 6 per cent.
The same law authorized a regulatory rate ceiling on
Federally-underwritten loans adequate "to meet the mortgage market.11
Acting under this authority, FHA and VA specified an across-the-board
limit of 6-3/4 per cent for all market-rate programs within States
permitting this level of rates on Government underwritten loans.
effect was to bring about some reduction in discounts.


However, since

market yields on FHA and VA mortgages currently exceed 7 per cent,
discounts remain fairly substantial.

At present such discounts

probably range between 4 and 6 points nationwide, compared with more
than 8 points at the time the law became effective.
At the State level, several liberalizing moves have been
made recently.

North Carolina raised its ceiling on mortgage loans to



7 per cent from 6 per cent, effective in June, 1967.


March 1 this year, Virginia adopted a ceiling of 8 per cent,
compared with the previous 6 per cent maximum.
On May 7, the Governor of Maryland signed a bill raising
the usury ceiling to 3 per cent from 6 per cent, effective July 1.
In the interim, apparently some FHA and VA mortgages are being
closed under terms calling for 6 per cent interest payable through
June 30 and 6-3/4 per cent thereafter.

A special (and unusual)

feature of the legislation would apparently prohibit the charging
of any discounts, points, or similar fees on all mortgages,
presumably including FHA and VA loans.

It is reported that the

Maryland Attorney General is preparing an opinion on the precise
application of this unusual feature.

If all FHA and VA mortgages

were included, of course, no lender could make a Government underwritten loan at a discount in Maryland, and funds for this type of
investment could become scarce indeed.

In fact, much of the benefit

of the move to a higher ceiling on mortgages would be erased.

In Pennsylvania, the Governor on May 17 signed a bill permitting a lender to charge a premium of 1 percentage point above the
existing 6 per cent usury ceiling.

Formerly, only savings and loan

associations could charge up to 7 per cent.

Permission to charge the

premium, which expires five years from the effective date, applies only



to newly-made mortgages.

No existing mortgage, according to the law,

may be renegotiated at the premium.
It is reported that many long-term mortgages in Pennsylvania
have been made under a provision calling for renegotiation of the rate
after each successive 3-year period.

Apparently, the new law would

prohibit renegotiation of such loans at the premium rate, although
the courts may have to resolve the uncertainty.

In the meantime,

while the new lav; in Pennsylvania is definitely a step forward, on
closer examination, the stride seems not to have been as long as one
originally thought.
Strong efforts are being continued in New York and a few other
States to liberalize 6 per cent usury ceilings. The outcome of these
efforts assumes even more critical importance in light of the trend of
mortgage rates.

Since mid-April, home mortgage yields have risen above

7 per cent for the first time in the postwar period.

If further increases

should occur, investment in home mortgages will come under increasing
restraint within an additional 8 States x*ith 7 per cent usury ceilings.
Last year, these 3 States (Illinois, Iowa, Kentucky, Michigan, North
Carolina, North Dakota, South Carolina -- and Pennsylvania which just
moved to 7 per cent) accounted for 13 per cent of all housing units for
which building permits were issued within the nation's 3,014 permitissuing places.

• 16Concluding Remarks
Thus, a significant task remains ahead of us, if we are to
develop a truly viable mortgage market.

A critical ingredient in the

process is the early abolition of statutory rate ceilings.
The public policy objective of usury ceilings is to protect
mortgage borrowers in unfavorable bargaining positions from "excessive"
charges on loans extended by private lenders.

But when going yields

exceed usury ceilings substantially, this objective becomes increasingly
difficult to achieve.

Meanwhile, other unintended and unfavorable

consequences (as mentioned above) are produced.

The anomalous outcome

may be that borrowers in States with quite high usury ceilings, or with
no usury ceilings, are more successful in their quest for adequate credit
from private sources on more reasonable overall terms than are borrowers
in low-rate States.

Retention of belox*-market usury ceilings thus

inevitably inhibits lending in the private sector, giving rise to demands
for greater lending from public sources.
To the extent that more Government agency credit is forthcoming,
public credit tends to be substituted for private credit, and when
subsidies are involved they are granted at the expense of all taxpayers.
The substitution of public for private credit runs exactly counter to
the settled position of public policy as set forth in an interagency
committee report on "Federal Credit Programs11 presented to the President
in 1963.

This committee recommended that "Government credit programs

should, in principle, supplement or stimulate private lending, rather
than substitute for it."


17Personally, I am not aware of any reports showing that

mortgage borrowers in such States as Massachusetts, Maine, and
Connecticut ~

where any mortgage rate may be charged -- have been

forced to borrow at exorbitant rates of interest, even on junior

On the other hand, we have learned from informal

sources that since going market yields (rates) tend to prevail in
these States, lenders have been more willing to make new commitments
on local properties there than they have been in adjacent or nearby
States such as New York, Vermont, or Pennsylvania, where usury ceilings
are (or were) 6 per cent and discounts may or may not be charged.
Finally, the need for any usury "protection" will also be
substantially lessened, if not eliminated, once the truth-in-lending
legislation that has been passed by Congress is in force.


Consumer Credit Cost Disclosure section, Title I of the Consumer
Credit Protection Act, which is cited as the Truth In Lending Act,
requires that the borrower be given a complete statement of all
charges involved.

Those charges that are defined to be part of the

finance charge are to be computed in terms of an annual interest

In the case of real estate, the computation of the annual

interest rate includes any points which may be involved on the mortgage.
Because of this required statement, the borrower should have a more
accurate idea of the actual costs involved with any particular mortgage
and also a more useful basis for comparison in his choice of mortgage
In the meantime, the efforts to remove State usury ceilings
on mortgage interest rates are still worth pursuing.