This is a version of my column in The Irish Examiner on 6 April 2013 . It was written before the talk at the Cantillon School at which the Central Bank revealed that upwards of 25b of SME loans were now impaired. That is 50% of these loans a truly astounding percentage
Back in 2011 Blackrock undertook an analysis of the Irish banks mortgage books. Blackrock are a respected and global financial services company and were given access to the inner details of the banking sector. They looked at the capital needs of the banks under a variety of scenarios, and in effect looked at how much additional capital would be needed. Under the ‘adverse scenario’ identified by them the banks were expected to lose an additional 43b euro, and 29.5b under the base scenario. Seamus Coffey has a good post on the PCARs and losses here . Deviation from this towards or through the adverse or stress scenario raises the specter of future capital calls from the banks. To this must be added the new normal, that deposits are to be seen as potentially in play where capital needs of banks emerge. We are in many respects at or beyond this adverse scenario.
The recent IMF report should put paid to the rosy notion of corners being turned on a carpet of green shoots. Although the headline unemployment rate, at 14.5% or so, is below the stress scenario the reality, as highlighted by the IMF, is involuntary parttime and discouraged workers, and a real rate of closer to 23% are masking that this is evident. The stress tests assumed rates of 15.6% or so, so it is clear that we are breaching this, as the effect of unemployment are to make mortgages more stressed. IMF forecasts do not see the unemployment rate falling to single digit figures till after 2018.Similarily the stress tests assumed levels of falls in government consumption and in non government investment that have now been well breached. Although residential property prices have not fallen as fast as the stress tests assumed, these same tests also suggested that by now we would be seeing a modest upturn in prices. While this may be the case for selected urban markets for the economy as a whole it is highly improbable that we will see the overall residential market picking up any time soon. Falling income, house taxes and an ever-growing problem in terms of mortgage arrears combine to weigh down the market. Commercial property was also to have shown recovery by now and this is not evident overall. Thus, we are close to or over the adverse scenario of the Blackrock capital tests in many of the key areas. The revelation that the SME losses are 6 times as bad as the adverse scenario should give massive concern.
While exports have performed remarkably well these do not translate except in the loosest terms into either jobs or revenue. With banks on average losing money and with capital buffers declining (although still high) we face into a possible crunch scenario. There is a quite extraordinary high level of non performing loans in the Irish banks property loan book. Some estimates suggest that these are strategic defaulters. This terminology is technically accurate – people facing falling income make decisions to allocate income and absent widespread repossession there is relativity little incentive to prioritize mortgages. It is however misleading in a social or political perspective and makes little distinction between BTL and private residences.
BTL investments which are underwater should be treated as any other investment and foreclosed on. Of the 31b in buy to let mortgages some 24,000 cases with 7b in debt are in arrears of more than 180 days. These are the hopeless cases with arrears of 1b. The problem for the banks is that this 7b is probably now worth at most 3b and perhaps far less. A hit of 4b to the banking sector would deeply damage their capital base. But that is what the capital base is there for, what we put in places for, to absorb losses. When we look at principal private residences we see 14b worth of mortgages in arrears of over 180 days. The total arrears here are 1.6b, suggesting not surprisingly, that people will attempt to keep arrears on their home low by comparison to investments. Nonetheless, the reality is that 23000 people are in arrears for more than 2 years and these also are hopeless cases. If the banks repossess the homes they will not realize the 4.7b in mortgage debt and under the new insolvency regime the greater part of these will be lost. So between the BTL and residential mortgages the banks are looking at losses of 6b and more. Then we have the SME losses, with untold billions at risk.
What is the plan for this? Where will this leave the capital bases? Where will it leave the banks in terms of seeking capital? Where will it leave depositors if the government decides not to ask the taxpayer to go to the well one more time? A series of clear statements on what, if any, joined up thinking exists as between the desire to clean the banks balance sheets, the new insolvency regime, the growing mortgage arrears problem and the lack of desire to see mass repossessions would be nice.