Someone needs to define affordability in mortgages

This is a version of a column which appeared in the Irish Examiner 14 September 2013

Since the appearance of the banks before the oireachtas committees last week we have seen a lot of discussion on the mortgage issue. Like the poor, speculation about mortgages will always be with us it seems.

A vexed element of the mortgage story is that we still know little about what the extent is of “wont pay” versus “cant pay”. This debate has been raging now for months and we still are no further along than we were at the start. The very term “strategic default” itself is fuzzy and incoherent. It implies a degree of deliberate decision making that is absent from all studies (outside Ireland) where the evidence is that the overwhelming determination of default is an emotional not a rational decision.

 

Underlying this and running through other issues related to debt is one common denominator- we have no definition of what is and what is not affordable. Take the discussions on the insolvency regimes. Anyone who has read the guidelines for what is and what is not acceptable expenditure will note a massively intrusive approach into peoples spending. While people who are in mortgage default or those who worse end up in insolvency clearly need some assistance with their spending habits, the bottom up approach imposes significant compliance costs and significant monitoring costs. Whose business it is , apart from those spending it, what money is spent on sticking plasters?

 

A much simpler approach could, if there was regulatory will, be imposed which harks back to the past. This is to determine what is an acceptable percentage of after tax salary to spend on the servicing of debt. Typically this was seen as being in the region of 35%. What is interesting is that in the United States the percentage of household income devoted to debt service has hovered around the 10-15% for decades. The closest we can get in this country from the quarterly financial accounts suggests that as an economy as a whole we are around the same rate. But in Ireland we have a situation where the household sector is, financially, fractured. First we have more households without than with a mortgage. While non mortgage households will have other debts they will of necessity have much lower percentages of disposable income taken by debt service than those that have mortgages. Second, within the mortgaged households we have those in arrears (some 18%) and those without. Again, we do not have up to date information on how financially stressed these two elements are. The proponents of massive strategic default (or fraud as they are seemingly reluctant to call it) would have one believe that there is little, and that the 18% are for a large part simply keeping up a (non housing related) lifestyle that they cannot afford. It is perhaps more likely that these are more financially stressed and that they devote a larger part of after tax income to debt repayment than those who are not in default.

 

So what about mortgage debt? It might be simpler for the incoming regulator to state that 35%, with wiggle room of 5% either way, would represent an acceptable level of repayment for a principal private residence . The difficulty is that in doing so we would probably cause a significant hole to appear in the banks balance sheets. A very large number of mortgages would be reclassified as non-repayable were we to do this. This would cause the banks to have to engage in real terms with the mortgage holders. And that would result in write-offs which would erode the capital of the banks. But they have already been granted capital to do this. In the last round of bank capitalization they were required to put aside nearly 10b for losses on mortgages alone. They have not written off this amount, and will not. The taxpayer however has a right to expect the funds injected to be used for the purposes stated and thus significant write-offs of debts as irrecoverable is inevitable.

Setting a public level of affordability would also allow us to get clarity on the extent of strategic default. If someone is paying 50% of aftertax income on a mortgage and still falling into default, it is doubtful if anyone would call that a strategic default. Unaffordable yes, strategic no. On the other hand, someone paying 20% who is in default might well be required to get engaged with the realities of life.

There are good economic reasons why we might want to keep opaque the details of settlements between banks and defaulters. Banks like all lenders need to be able to get as much as possible from loans and thus, unpalatable as it may be to some, they need to hold the upper hand in negotiations. But there is no reason why we should keep opaque the level of any non commercially sensitive data. In this context we could reasonably ask that the banks be required to return to the central bank and that they publish on a monthly basis the amount of repayments made on mortgages, broken as between interest and capital. Indeed this could usefully be further broken down by those in and those not in arrears.

 

 

Mirror Mirror on the (Clara) wall, who is the sorriest of all?

‘No one more sorry than I about what happened,’ says Cowen – Political News | Irish & International Politics | The Irish Times – Fri, Aug 30, 2013.

I have never met Brian Cowen. The closest I came was twice, once when I saw him and some others in a hotel near the Dail the other time when a mutual acquaintance with whom he had been in school stood me up for a beer in favour of the then Deputy. I am sure and am assured that he is a decent chap, and one who has as much empathy as any other. This can only be highlighted witnessing the shambles that society has entered into. I believe him when he says that the actions, ultimately disastrous as they were and serially incredible as they seemed even at the time, were taken by him and his cabinet for the best of intentions. Alas, not just the road to Clara and political ignominy is paved with good intentions.

That said, it seems to me to degrade language for him, in his present circumstances of a 140k per annum pension, to say he is the sorriest of all. A partial list of people whom one might think are more sorry than he for the economic collapse might include

  • the nearly 400,000 people who have emigrated since the start of 2009
  • the nearly 200,000 people who have not emigrated but who as of July 2013 were more than one year on the live register.
  • the residents of priory hall left in the lurch by state, court and society but who are being hounded for payment by the banks they saved
  • the residents of poxy pyrite mansions dotted round the country who have been left in the lurch by insurers, homebond, the state and the legal system
  • the 77000 people who saw their respite care grant cut.
  • economists in banks who ramped the system
  • economists in universities who could have, but didnt, shout stop earlier or at all
  • the 50 or so FF TDs who lost their jobs in 2011
  • The 30 plus Labour TDs not in cabinet who now face the electoral whirlwind in 2014

one could go on.

This is not an Anti FF post. It is anti a style of political rhetoric which thinks a halfbaked apology en grudge served on a bed of selfjustification with a glass of crocodile tears is enough. Far better to respond to all media with ” I am retired from politics. What we did we did for what we thought then were the right decisions. Of course I regret any pain and suffering my and others actions caused. Thank you”. Simple, dignified, and accurate. Engaging in competitive misery from a well paid retirement is none of the above.

Ireland is, probably, not Greece….

This is an expanded version of an oped published in the Irish Examiner 12/January/2013

So, we are back in the bond market, which must mean that every thing is great, and the recession is over….. three cheers….no? really?

Well, one cheer for the NTMA anyhow is due, they did a solid professional job of tapping the existing bond base for additional money. What a lot of commentators fail to realize is that it’s a very long time indeed, back in the late 1970s, when we actually paid off debt. National debt, the stuff that plugs the still yawning gap between government income and expenditure, doesn’t any more get paid off but instead gets rolled over. Absent any banking crisis we still have that gap and it has to be filled. The concerns of Dr Honohan, that the markets don’t get it and demand a risk premium over Germany, are I fear misplaced. We are nowhere near out of the woods. As Van Rumpoy noted, we would have to take much the same corrective action as we are now doing, absent a banking crisis, to fix the broken government finances. And broken they remain

Between this year and next we need to redeem over 13b of government bonds, monies previously borrowed. Between now and the end of 2016 the sum is closer to 27b. So this modest sum is a useful step towards the funding of that repayment, which must be made before a single penny is borrowed to fill the 20b or more that will be spent by government in excess of its income.

Governor Honohan, and to some extent the Taoiseach in his talk to the CDU have expressed concern that the markets are not recognizing fully the efforts that have been made. The NTMA have expressed their concern also. However, the reality is that the markets are only vaguely efficient, if even that. Bond investors are concerned with getting their money back: in the pre crisis period the assumption was that within a union there was, somehow, equalization of risk and that lending to Greece or Ireland was no riskier than to Germany. Of course, we know now that that was completely untrue – it relied on an unspoken and untested assumption that the richer nations would bail out the poorer in a manner that would not scorch the economic earth. That this equalization is not going to return was noted by the Governor. But it then becomes clear that for the very long term we are going to pay much more than Germany or Austria for our debt.

If we examine Ireland and Greece over the last decade or so we can see why. The government have done an excellent job of making clear that Ireland is not Greece. But from a high-level financial analysis perspective its not that clear that we are in fact so very different. Take debt/GDP ratios; for Greece that has risen by 80% from the 2000 base while for us it has gone up by 350%. The difference was that Greece started at a high level, while the banking crisis has dragged us up. EU forecasts are now for debt GDP ratios in 2014 in Ireland to be 120% (140% vs GNP, which given we are unwilling or unable to tax MNC’s at any higher rate is the more appropriate level) versus a Greek level of 188%. Over the period we have run cumulative primary deficits equivalent to 40% of GDP while Greece ran at 25% ; Greece will be paying 6% of GDP in interest payments on debt in 2014, we will be paying 5.6% ( 6.7% of GNP) ; the implicit interst rate on Greek debt is forecast to be 3.2% while we will be paying 4.8%. What distinguishes us from Greece is a) a perception, broadly correct, that we as a nation have played “straight” in terms of making public our problems and in terms of having an effective and efficient tax collection system, b) a perception, again broadly correct, that we have better midterm economic prospects. Thus Ireland is able to contemplate returning to “normal” borrowing while Greece is still in deep trouble. But normal borrowing, even at what the powers that be consider to be inflated prices, is contingent on several stars coming into alignment

First, we must continue to get our basic financial position in order. Despite all the pain that we have taken the reality is we still face deficits of 7% and 5% for 2013 and 2014. Little radical change has been done or will be contemplated in many areas of the economy. Second, and related to that, we continue to pin our hopes on export led growth, into a challenging world economy. Third, government trust (even if ratings agencies and the Troika and independent analysts disagree) that the banks are sorted, in that the slow erosion of capital by the slower writing down of mortgage loans will not ersult in a need for more capital. And fourth, the market perception is that a meaningful deal will be done on the bank debt. The latter is getting more and more unlikely. Noonan has signalled that he is keen to exit the banks, selling the ownership stakes valued at 8b. These represent the NTMA valuaton of the 20b injected. The only large chunk of debt on which meaningful (setting to zero) action is the anglo note, and Brian Hayes stated last Wednesday that it will be paid back in full. So no meaningful deal will emerge – nor should it, if we are back in the markets, out of the banks and singing that we are all ok. Meanwhile, with industrial production slumping, exports (patent income washing excepted) flat, consumer confidence falling, house lrices remaining under lressure, incomes falling , health costs rising as service provision declines, and bank mortgage lending back somewhere last seen in the 1970s, singing that all is well to the international markets will merely sound cacophonously surreal to the domestic audience. But for six months we can be ignored as the government scurry about in fleets of shiny new cars “running Europe”. Running indeed…

 

Euro deal saves Ireland? Maybe…

It’s not clear that it does. I’m not sure it’s a seismic (Enda Kenny) or massive (Eamonn Gilmore) deal. And it happened because of Spanish and Italian pressure.

So far as we can see at present there are three parts to this. The Spanish banks will be recapped directly from the EFSF and later the ESM (assuming there is one…) which will not have formal super senior status but will be more like the IMF and have quasi senior status. The ECB will get an enhanced supervisory role. Crucially for Ireland the deal also suggests that similar cases will be treated similarly. But there is no explicit retrospection.

We have spent, in very rough terms, 30b on Anglo promissory notes, 20b from the then National Pension Reserve Fund in direct bank recaps and about 12-14b more in other recaps, bailouts etc which forms part of the explicit borrowing now subsumed under the troika bailout..

We will not get that 20b back. It’s gone. We might, but it’s not clear, get a deal on the prom notes, but the mood music is that at best this quasi state debt will be converted to very much state debt albeit repayable in a manner that costs less per annum than the 3b cost of prom note redemption. We might or might not get a deal on the 12b, but there is no “Irish state bond for recapping banks” out that can be redeemed. So this would have to be dealt with as part of a general state debt not bank debt deal, which seems not to be o n the cards.

It’s a soda stream not a champagne moment.

(so far 8) questions on the Fiscal Compact which I would like answered..

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Following up on my blogpost today and just in time for the sunday business and talking heads shows, some questions spring to mind on the Fiscal Compact. Feel free to pose these to relevant politicians or better yet to answer them below..

  1. How would the existence of the fiscal compact have prevented the Irish economic collapse, given that we would (debt levels apart) have been pretty much within the terms of the criteria? Our problem on the fiscal side was that we were badly balanced in terms of the makeup of the tax base and clientilist in our expenditure.
  2. How exactly will a structural deficit be estimated, given that there is no consistent method for so doing and that it is dependent on in essence a backcast of what the economy might have been at were it growing at capacity? What models and approved by whom will be used to estimate the economic dynamics? What if the ESRI say we are in balance, the ECB say we are not, the OECD say maybe, and the IMF say we might be if their model is right…? Who arbitrates..?
  3. Given that the implied dynamics of the fiscal compact on sovereign debt are that it will radically shrink, what are the knockon effects and how will they be handled in terms of pension and investment funds which will now have to either move to other low risk assets with the danfer of igniting bubbles therein or take more risk with the consequent dangers to pension funding (private and public).?
  4. Would the existence of the FC have prevented the taking on of the bank debts, in 2008, given the effect which that had on the fiscal side? If this is so how can the FC be squared with the evident desire by the ECB to not see banks fail?
  5.  Given that if you exceed the terms of the Fiscal Compact you will be fined up to 0.1% GDP, will that not lead to a exceeding-fine-exceeding spiral?
  6. Given that in general Fiscal policy is taken as the taxation and expenditure elements of government as they interact with the economy, and that this is in essence a state level spending side only treaty, when can we expect common movement on either state level taxation or community level transfer payments to offset the pro cyclicality of this pact ?
  7. If this is ‘a vote on the euro’ what mechanism wil be used to remove us from the euro zone? What treaty, what section?
  8. Given that the government have already stated that the talk of a second bailout (aka being in the ESM) is ‘ludicrous’, and that the only sanction mentioned in the FC is not being able to access same ESM if one does not sign up, what is the downside of saying ‘hmm, no, not quite what we need thanks’?