The rate spread between home mortgages and Government bonds is lower in the US than anywhere else in the world, with the possible exception of the UK and Denmark, which also have secondary mortgage markets. Secondary mortgage markets are of two general types. Such markets, which arose in the US soon after World War II, primarily involve the one-time sale of newly originated mortgages to traditional mortgage lenders. In the 1970s, markets also developed in mortgage-backed securities issued against pools of mortgages. These securities are actively traded after the initial issuance, and they are attractive to investors that would not ordinarily hold mortgages, such as pension funds or mutual funds.
Secondary markets reduce mortgage interest rates in several ways.
First, they increase competition by encouraging the development of a new industry of loan originators. In small communities especially, borrowers may be at the mercy of one or a few local banks or savings and loan associations. The entry of mortgage companies who can sell into the secondary market breaks up these local fiefdoms, much to the benefit of borrowers. The development of whole loan markets in the US is largely responsible for the growth of this industry. Secondary markets also increase efficiency by encouraging a specialization of lending functions that reduces costs.