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Chronicle Of A Debt Foretold - Ireland

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Just about sums the situation up.


Chronicle of a Debt Foretold

06 February 2005 By David McWilliams

In Gabriel Garcia Marquez's Chronicle of a Death Foretold, the story of a gruesome murder unfolds. A young woman marries, but on her wedding night it is found that she is not a virgin.

The groom is incensed and vows to kill her lover. He conscripts the bride's two brothers to carry out the murder in order to maintain the family's honour. Everyone in the town is aware of the impending fate of the lover, Santiago Nasar, but they fail to tell him.

The genius of the book is that the reader becomes complicit in this act of wanton silence. We implore the villagers to tell Nasar to run, but they fail us. In the end, we become witnesses and ultimately, accessories to a horrible end.

Everyone could see what was going to happen - the murderers had even declared their intent. Yet nobody thought that they would carry it out, and everybody hoped that something or someone would come along to save the day.

In Ireland, rapid borrowing over the past five years tells its own story: Chronicle of a Debt Foretold. Everyone knows that payback time will come, but we are all hoping that miraculous intervention will bail us out. We want to warn ourselves and our neighbours, but feel that the act of warning itself may awaken the sleeping dogs. So we remain silent, stunned in the face of a rising debt monster.

Let us look at the figures. Last year, for the first time ever, our overall debt level surpassed our income level. This in itself is not the issue. The issue is the pace at which our indebtedness is rising. In 2003, the ratio of debt to income was 94 per cent. By last year that figure had jumped to 120 per cent. This is financial delinquency on a monumental scale.

If it continues at this pace, our debt burden will be twice our income by 2010.

By the end of this month, our debt burden will pass 130 per cent of income.

Does a debt burden of 130 per cent sound familiar? Well, it should, because this is the figure our national debt hit in the mid-1980s - prompting fears that the International Monetary Fund (IMF) would have to intervene in the economy.

Why did a public debt burden of 130 per cent signal remedial action, political upheaval and capital flight, while a private debt burden of the same magnitude today - with no prospect of corrective measures - makes one headline and then fades?

The reason is clear: commentators mistakenly believe that there is some material difference between public and private debt. The only difference is that in the 1980s individuals could avoid paying back public debt by emigrating.

Take a look at the Asian crisis of the late 1990s. It was triggered by too much private sector debt - largely extended by banks to finance property speculation.

Sound familiar? Debt is debt is debt.

And debt, whether it is public or private, has to be paid.

In fact, the debt dynamics of Ireland in 1987 were immeasurably better than they are now. Back then, interest rates were in the high teens, so the reward for curative action was much lower interest rates, as the risk of Irish default receded. Today, the opposite is the case. There is no prospect of interest rates going lower.

For example, the US raised rates this week, and Irish long-term interest rates are close to 4 per cent - a full 2 per cent above the base rate. So the debt dynamics of our much-discussed ‘basket case' economy of the mid-1980s were actually better than those facing the vigorous 21st-century version. Obviously, the composition of the economy is totally different this year, but the prospective debt dynamics in the 1980s were actually much more appealing than they are now.

Anybody who bought a house in the 1980s will tell you that the combination of inflation up to 1985 followed by a rapid fall in interest rates to 1990 all but wiped out their mortgage debt.

The opposite is the case now. Many financiers are responding to the latest credit figures with a shrug and a suggestion that this is a natural reaction to the historically low interest rate environment.

But borrowing when rates are low is fool's gold.

The worst time to borrow is when interest rates are at historical lows, because they will only rise over the course of the loan, so you are in for negative surprises.

The best time to borrow is when rates are at historic highs - as they were in the early 1990s - because as the rates fall, the value of all other assets will rise.

Another problem with Ireland's debt explosion is that it is hugely dependent on property. Property is being used as collateral for second homes, home extensions, foreign holidays, even golf club membership.

While we are seeing huge anecdotal evidence of this, no institution - not even the Central Bank - has hard facts on this ‘equity release' figure.

But we know that in recent years there have been months when property-related lending constituted close to 95 per cent of all loans extended. This is bizarre.

It sometimes seems that nothing else is going on in Irish financial markets except feeding the property glutton.

Because the banks and the property market are so interdependent, it is hard to know what is driving what. Is the price of property being driven by bank credit, or is bank credit being driven by property prices? Either way, the financial system and the Irish property glutton are umbilically linked.

As long as credit is cheap, the banks will lend. Arguably, the banks are the main reason that land prices remain high, and the banks' future is so tied up in land that if they stopped lending now prices would fall.

Any fall in prices would lead to bad debts, profit warnings, share price collapses, and bank takeovers.

No chief executive of an Irish bank would survive such a scenario, so there are good careerist and personal, as well as corporate, reasons for double-digit lending to a workforce whose personal income is only rising by 2 or 3 per cent.

Sometimes, we fail to see that banks are simply selling money. Therefore, instead of being the guardians of prudence, the banks can become the agents of profligacy.

Given the inextricable links between banks and land, commentators might use the expression ‘property/credit' to describe the financial incontinence of modern Ireland in the same way some use ‘Sinn Féin/IRA' to describe the republican movement.

There is another crucial dimension of the property/credit cycle. Demographically, the young are increasingly becoming the victims of the dilemma, because it is these people who have to pay the prices, while the older generations are benefiting hugely, as they are the original landowners.

Put simply, for every five first-time buyers struggling in the traffic from Kinnegad tomorrow morning, there's a rich 65-year-old teeing off in the Algarve.

This division is creating a financial second class of people who are up to their eyes in debt, running from work to creche and juggling maxed-out credit cards to stay afloat. They are the central characters in the great Irish literary masterpiece of the early 21st century, an exquisite work of magic realism: Chronicle of a Debt Foretold.

You couldn't make it up.

The February edition of the independent financial newsletter The McWilliams Agenda is out tomorrow.


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To its benefit,Ireland does have less restrictive working practice than some of it's european counterparts,and has a common currency.

it is not necessarily eurozone IR's being low that are driving the boom,but an end to such low and sustained rates will be a major shock should it arise.

don't think that UK would be in such a position should it join euro,it wont!!!...IRELAND IS A NET BENEFICIARY OF EURO-FUNDS.France,germany,UK are net contributors...and EU would like UK to pay A LOT more by renouncing the rebate and paying an adiitional £6Bn(not sure whether this is annual but it is hefty and it means substantial tax rises in any case).

yes,the likes of poland,latvia will gain but as I said on an earlier post,this is not a cring-sharing game....a small amount will help everyone(especially if is trade-based),but a neo-communist approach in eu will destroy it...in which case it's best to avoid the carnage.

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Damien Kiberd was a permabull, I'm not so sure now.......

Sunday Times Ireland

Irish Outlook: Damien Kiberd: Housing industry defies gravity

AS a country we have become complacent about the sustainability of the current economic boom, casual even. So many businesses appear to have grown used to the period of easy money that few real questions are being asked about future realities. Why else would we permit two rather ordinary mobile phone companies, Vodafone and O2, to extract profits of €600m a year from a tiny market.

The growth in the volume of lending being pushed through licensed banks — which now enjoy vastly slimmed-down overheads — is such that two of the big clearing operations, AIB and Bank of Ireland, are heading for profits of €1.6 billion and €1.35 billion respectively and can achieve returns on risk-weighted assets as high as 1.7%.

Anglo Irish, perhaps the bank that best knows how to ride the boom, has seen its share price increase by close to 400% since 2000.

The country’s builders represent the wave of “permanent optimism†most faithfully. They are not asking why it is possible for us to build six times more new homes per capita than Britain. Meanwhile the unique nexus between Irish builders and Irish banks continues to fund a remarkable programme of overseas property acquisition. There is no deal too big for these builders and their financial engineers.

The big questions now are twofold: can all of this continue and, if not, what can be done to minimise the damage when it ceases?

All major sectors of the real economy are operating at a frenetic pace fuelled by what seems like a boundless supply of very cheap credit. But even the continued availability of such credit does not mean that people want to go on piling up personal debt in a country that has endured a prolonged asset price bubble and which has become a hugely expensive place to live.

For now, the borrowing frenzy proceeds apace. The Central Bank says the net increase in residential mortgages during December was €1.6 billion, the third highest monthly increase on record. If you add back another €320m in mortgages reclassified out of the category labelled “residentialâ€, then the true increase was in excess of €1.9 billion, the highest ever monthly total.

A lot of people turn into party animals during the weeks preceding Christmas but clearly there were a lot of busy beavers out there shifting borrowed money from one account to another.

There was also a €2.9 billion increase in term loans and revolving credits, much of which came from banks outside the clearing system during the same month of December.

Rather than getting obsessed with one month’s numbers, we need to look at overall trends. Private sector credit in 2004 is up an astonishing 26.5%. Annualised growth in non-mortgage credit has almost doubled to 24.2%. And borrowing on the foot of residential mortgages is up 26.5%.

When the banks are accused of reckless lending strategies, they resort to honeyed words. Most of the loans to citizens are “asset backedâ€, they say, secured on solid property. House inflation has begun to taper off, they say, adding that monthly lending peaked in July 2004. (This latter claim is true but only because Bank of Scotland reclassified part of its mortgage loan book as belonging to an Irish credit institution at that time).

The 78,000 new homes completed in this country last year account for some of the bricks and mortar that secures the banks’ balance sheets. House prices continued to rise strongly throughout the year, but the Construction Industry Federation (CIF) — calling a possible “turn†in the markets in 2005 — predicts a decline to 73,500 units this year.

It notes, with candour, that “Ireland is now producing houses at a rate of 20 units per annum per 1,000 people. This compares with a European and American average of five units per 1,000 people. A third of Ireland’s housing stock is now less than 10 years old and we are adding to our stock of housing at twice the rate of increase of populationâ€.

No wonder the CIF sees housing output dropping to below 60,000 units in the medium term.

The builders, who are paid up members of the CIF, don’t appear to be “on message†in relation to the implications of these forecasts. They are progressively driving up the price of development land, scrambling over one another to buy sites and lodging unprecedented numbers of planning applications.

They clearly believe that you can go on adding 5.5% to the national housing stock, year in and year out. Strong inward migration, lower average family sizes and the purchase of second homes all act to support their burgeoning confidence. But a growing number of analysts, some within the property sector, believe there is an element of “defying gravity†within the process. The problem is our €28 billion-a-year building sector is now operating at breakneck speed backed by a banking system so sold on lending cash it will offer a drunken man with a computer a big mortgage in the wee small hours.

The builders, with their army of 220,000 construction workers, and the lending institutions are geared up to cope with maximum levels of activity.

What will happen if lots of people collectively decide that they have absorbed “quite enough debt for now†and make such a decision simultaneously? Can the builders and bankers scale back their war machine without massive pain? Consumer confidence is at a four-year high, according to the latest IIB Bank/ESRI index. Buoyed up by the “equity†in their property, citizens are showing a growing appetite for non-asset backed debt, which now appears to stand at somewhere in the region of €20 billion for households. Unlike mortgage finance which carries a typical coupon of 3.5% to 4.5%, such debt is serviced at rates of up to 9%.

The media tends to focus on credit card debt, but the volume of this type of borrowing is still statistically trivial. The bulk of non-mortgage personal borrowing is in the form of overdrafts and term loans. But there is mounting evidence that what might be called multiple-debt dependency is becoming a problem in parts of the middle class.

The Money Advice & Budgeting Service (Mabs) reports that “problem cases†are already seeking help and may be coping with up to 15 different forms of personal debt. Mabs favours the creation of a comprehensive and centralised credit register. This would inevitably lead to cries of “big brother†while acting as a death knell for credit junkies.

Bank economists appear to believe that eurozone interest rates will rise this summer. There is no reason for the European Central Bank to lift rates but perhaps its nerve will crack as the Fed continues to drive up American base rates.

It would, however, require a substantial upward adjustment in money rates to cause significant problems of “affordability†among Irish borrowers. But the interest-rate threat ranks lower down the scale than other less predictable issues.

These include the above- mentioned collective decision of citizens to “stop borrowing incremental amounts†because debt servicing is pre-empting enough spending power. Or the possibility of externally generated shocks to the Irish labour market which could leave a proportion of highly leveraged people high and dry, prompt distress selling of assets and generally sap confidence.

PS: Confirmation from the German government that registered unemployment is now in excess of 5m for the first time since the 1930s illustrates the long, slow decline into old age of what used to be one of the world’s finest economies.

Germany is bad, but the situation across the eurozone is not much better. Average unemployment in the sector to which we have linked ourselves is 9% and in France the rate is edging 10%. Until these markets are sorted out, Irish business should not be looking for any demand boost from our European partners.

Perhaps we should be exploring ways of deepening links with these rather depressed economies in ways that allow us to reduce the cost base of our enterprises and to limit inflation within our own economy.

If Quinnsworth had been sold to Leclerc or Carrefour rather than to Tesco, would Ireland now have the second highest cost of living in the eurozone? Tesco operates primarily in a strong currency zone with modest rates of joblessness and a well-managed economy. The French retailers are selling into an economy where, for many, every cent counts.

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  • 5 years later...

As an Irishman living in Scotland, I've had to look at this from afar.

Everytime I went home, PROPERTY was the main topic of conversation.

The Irish were the cleverest people on the planet! :rolleyes:

Inflation at 8% - Interest Rates at 4% and House Price inflation at 12% - for years on end.

if you are interested in learning a bit more - there were a few commentators who spoke out against the bubble.

Prime among them was David McWilliams.

I'm normally ashamed to be from Northern Ireland - but now I'm ashamed to be Irish at all. :(

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