If you're seeing this message, it means we're having trouble loading external resources on our website.

If you're behind a web filter, please make sure that the domains *.kastatic.org and *.kasandbox.org are unblocked.

Main content
Current time:0:00Total duration:8:54

Video transcript

before I go into an explanation of why housing prices skyrocketed from 2000 to 2006 I think it's a good idea to give a little history of what the housing market in the mortgage market used to be like before things got out of control so let's go back to say I don't know let's go back to the late 70s maybe you know mid 70s actually I remember my parents they bought a house we lived in New Orleans and and the house if I remember correctly it cost roughly $60,000 $60,000 and back then to buy a house and actually for a while until more recently in order to buy a house you have to put 25% down so 25% of $60,000 the fourth of its we have to put $15,000 down you have to save up $15,000 and then you're going to get a mortgage on $45,000 right 45,000 you're going to borrow and I forgot the exact interest rates then but I'm just going to throw out a number just to this is really just to kind of for instructive purposes let's say interest rates back then they were higher they were like 9% I think so 49 percent on $45,000 how much interest am I going to pay 45 1 2 3 times 0.9 so I'm going to pay a little over $4,000 a year in interest or if I divide by 12 about 340 dollars a month 340 dollars per month and interest and I remember at the time we we actually moved out of our house and we rented it out because we needed cash and we rented out that exact same house and I this was in the late 70s or early early 80s we rented out that exact same house for $900 the rent was $900 so this this this raises I guess a couple of questions first of all the big question is why are those why did those people who who rented our house I mean they paid $900 a month they must have had a good income and I mean for that time why were they willing to pay rent when they could have bought a where the mortgage would have been you note of been interest plus a little principal it would have been no more than $400 a month you know why would an end so why would you just throw away and this is the classic rent versus buy argument why would you throw away $900 where you could actually build equity paying $400 a month for the exact same place and you can think of about that a little bit but there's a bunch of reasons what what was necessary to buy a house then well one you needed a $15,000 downpayment maybe these people they had really good cash flow every month but they just never had the circumstances or maybe even the discipline to save up $15,000 you also needed a really steady job so you needed this is the down payment this is one thing you also need a steady job a steady job maybe the people who are renting had you know they were working odd jobs or they were they didn't have a steady income although I doubted I don't think we would have actually leased the house to them had that been the case they probably had that they probably and so and then the last thing you needed to get a mortgage is you needed a good credit good credit and maybe these people didn't have that maybe they just you know they didn't pay some bills in the past and they just they couldn't find a bank that was willing to give him a loan despite having a steady job in a $15,000 down if you had to ask me I think the biggest barrier for for this family at that time was probably the $15,000 down payment and frankly they probably had trouble saving $15,000 because we were paying they were busy paying $900 in rent so that was the circumstance throughout actually most of modern history that you had this barrier towards buying a house that it did make sense that you know the conventional wisdom that it is better to buy than rent held it's just everyone knew that but a lot of people just couldn't buy even though they wanted to because they didn't have the down payment they didn't have the steady job or they didn't have the good credit that was a circumstance then and that lasted for some time what happened in the early 2000s and it actually happened in California in the mid 90s but it got more and more I guess we could say flagrant as we went through the decade is that people started lowering these standards and I'll do a whole other video on possibly why those were lowered but let's say that in 1980 you needed 25% down you need let me just switch colors that color is kind of ugly you need a steady job a steady job and you needed a I don't know let's say you need a 700 credit score and that was true from 1980 to let's say 2000 I'm exaggerating a bit but this is just to give you the broad sense of what actually happened but let's say then in 2001 and I'll explain later why this might have happened the standards were lowered that if you wanted to buy a house all of a sudden you could actually find someone who's willing to give you a house for 10% down 10% down you know maybe kind of steady job kind of steady job maybe just need a job and maybe hit a 600 credit rating so what happens when the standards on the mortgage go from this to this let's go back to these people who used to rent that house from us for $900 maybe they didn't have $15,000 right that would've been a 25% down payment but maybe back then they had 10% maybe they had $6,000 they just couldn't get up to $15,000 in savings so if a 19 you know back when they were doing this back in the 80s if if the standards got a little bit freer like they did in the early 2000s those people could have bought a house they would have said man you know we don't have to rent anymore we've saved up the 10% down payment it's gotten a little easier our job now meets requirements our credit now meets requirements we can go buy that house so that would have increased the aggregate demand for housing even though even if no one's incomes increased even if the population didn't increase all of a sudden there's a new person who could get financing to buy a house and then if we go to two thousand and two thousand let's say two thousand three they say you know what you don't even you don't need any down payment no down no money down so that's a you could imagine there's a whole set of people who maybe had a decent income but they couldn't save any money now all of a sudden there's there was no down payment barrier to buying a house maybe you still needed a job and maybe just needed a five hundred credit right so all of a sudden without people's incomes going up without more jobs being available without the population increase there were more people who could get financing or more people who could bid up homes and this situation actually got pretty bad by 2004-2005 and this isn't exact but it gives you a sense of what happened by 2004-2005 you had you had a situation where they have the stated income they have these things called liar loans and maybe I'll do videos on each of these but these were essentially no down payment if you had a job you could kind of make it up you just said I have a job they wouldn't validate it these were stated income then you could say you could just say what you made so even though the mortgage might you know require an income of $10,000 a month and your income is only 2,000 a month you could say your income is 10,000 a month so you know stated income no down maybe a job and they didn't even do a credit check so what happened from 2000 to 2004 is that credit just got easier and easier and easier and every time credit got easier there were more people who despite the fact that they weren't making any more money they were able to get financing and so the the pool of people who were able to bid on homes or the demand for homes because now there was this financing became larger and larger and that's what increased the prices of homes and now you know you the obvious question is well why did this happen what well you know first of all why did they get easier in 2001 get easier and easier as we went to 2004 and why did they get to this unbelievably absurd level where by 2004 and 2005 you hear stories especially in California in Florida of people who are making maybe $40,000 a year and they were able to buy houses with no money down with you know some of these people were migrant laborers and they were able to buy houses for four million dollars so and so in the next video I will tell you why that happened why were people willing to give their cash it to people to buy a house that had a very low likelihood of getting paid back and for a house that had a very low likelihood of being able to retain its value I'll see you in the next video