Then, as now, there was a large migration to the cities, and a severe shortage of housing. One means of increasing construction was to push down the cost of building housing. Households and construction companies had the possibility to receive both interest subsidies and interest guarantees if they built housing in accordance with specific requirements regarding design and size. This led to a large demand for loans. The regulations not only governed the terms for households’ loans, but also the terms for the mortgage institutions’ funding of the loans. Mortgage institutions were usually independent of the banks and funded themselves by issuing mortgage bonds. The maturity for these bonds was normally 30 years, but it could sometimes extend to 40 years, that is, much longer than today. Demand for these bonds was governed by the state through so-called liquidity ratios, which regulated how much the banks were forced to invest in mortgage bonds in relation to their deposits. Insurance companies were also obliged to invest in mortgage bonds. One could say that the state created a form of artificial demand for mortgage bonds. The bond yield was set by the Riksbank. It was thus probably lower than it would have been on a free market. Steps towards market funding Right from the start, mortgages were thus funded by bonds since the mortgage institutions were not allowed to receive deposits from the general public.
The fact that around one third of all Swedish covered bonds are owned by foreign investors is both an opportunity and a risk. The opportunity to spread funding has been positive, at the same time as we have previously seen that foreign investors tend to be the first to sell their holdings in times of unease, and that this can start a sales spiral. We saw this type of selling behaviour in 2007, for instance, when unease on the financial markets increased and the Swedish banks’ exposure to the Baltic countries made investors want to sell the Swedish banks’ covered bonds, which were perceived as high risk.5 Investors then sought safer assets, such as government securities. During the second half of 2007, foreign investors reduced their holdings of Swedish covered bonds by as much as a quarter, from SEK 450 billion to SEK 330 billion.6 It was primarily investors with a short-term investment strategy who withdrew, which meant that bond yields rose. With the exception of the acute global financial crisis, however, the market for covered bonds has functioned well. Foreign investors’ interest in Swedish covered bonds is currently high, which is evident in the low yield levels. But the more the banks become dependent on a particular source of funding, the more vulnerable they become if this market were to suffer problems.