November 11, 2001

Borrowing bubble about to burst

Posted in Celtic Tiger · 7 comments ·
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When I was a kid there were only three types of football fans where we lived: Leeds fans, Man U fans and Liverpool fans. Okay, so there were a couple of Chelsea and Gunners supporters, but they were only mid-table FA cup teams and really didn’t matter.

The battle was about the big three. The worst crime (actually worse than supporting Man U) was changing your allegiances to another team that was on a winning streak. Thus, any Leeds defectors to Liverpool in the mid-1970s were never forgiven and suffered the dreadful Dun Laoghaire fatwah, eternally damned to play in goal. Even at the age of nine, allegiance, honour and being true to your word were important.

Being true to your word does not appear to be a virtue of today’s economic experts. The spoofers who this time last year were predicting a golden age of endless riches for Ireland are now saying, “Nobody believed the boom could last”.

Well, hold on a second, you guys did! Where are the same lads and lasses that, not three months ago were talking about a “soft landing”? And where, more to the point, is their soft landing? Today all talk is about an “inevitable cyclical slowdown”, but wait a minute, these recent converts to the business cycle were last year suggesting that Ireland was experiencing a “new paradigm” where growth would continue for years, irrespective of cycles.

To believe in business cycles was dismissed as old-fashioned. Even as late as May of this year the spoofers’ basic message was like a dentist’s before root canal treatment: “Don’t worry, you won’t feel a thing”. We now know that this was financial flatulence based on wishful thinking rather than any hard analysis. Yet, however lax it was to miss the downturn, the scene emerging now on our airwaves is even harder to take.

Forecasters can be forgiven for missing downturns or upswings (although if I were paying them I might be less understanding) but a forecaster’s job is to predict the future. If an economist cannot do this, he or she has problems.

As practically every single Irish economist failed to forecast this downturn, one would expect that they would at least have the decorum to stay off the airwaves for a while.

However, we have the tacky spectacle of economists who couldn’t even see the recession coming, now lining up to argue the toss over whether the recovery will be V-shaped or U-shaped. The general public is entitled to ask whether these so-called experts are qualified to spout on about the shape of the future when they could not see a slump coming, even though every elementary signal was flashing amber and red in this country for two years.

If a forecaster did not predict the boom back in the mid-1990s nor the bust of 2001, why should anyone listen to what he has to say about the prospects for 2002?

People are rightly concerned. To understand where things might go, it is important to analyse where we have come from and where things started to go wrong. It is fashionable for economists to state boldly that things started to go awry when Ireland was hit by three shocks from the outside this year.

First, experts talk about foot and mouth, second, the slump in technology and third the September 11 attacks. But this is all hot air.

Things started to go wrong for this country when we started to believe our own propaganda. That was back in early 1999 when people began to borrow phenomenally, and that was the time to sound the alarm. JP Morgan, the legendary US investment banker, once said, “Nothing so impairs your financial judgement as the sight of your neighbour getting rich.”

Nothing could better describe the nonsense in Ireland than that jealousy of rapid riches among neighbours. The media were in for the ride, because the boom, particularly in houses, paid bills. It was also boom time for glossy magazine pullouts about posh Danish kitchens or “once-in-a-lifetime-opportunities” in half-built Spanish golf resorts. Such dross probably crescendoed in the `Take Five at �250,000′ section of the Irish Times property supplement, which tried to persuade us that a three-bedroom semi in Clontarf was worth as much as an eight bedroom restored chateau just outside Paris on 25 acres.

This is when it all started to go wrong — not in the past nine months. And if people, particularly investors, were worried back in 1999 about calling the peak too early, they should be reminded of another great expression from JP Morgan: “Nobody lost money by selling too early”. The bubble emerged back in 1999, and the existence of this borrowing bubble at the peak of a business cycle is the reason why what we have seen these past two months is just the tip of the recessionary iceberg.

The downturn will be long and drawn-out here because we will have to pay back all the debt. Whether we pay it back or not, the overhang will dictate the tone of the economy over the coming years. The best historical examples are the recessions that are experienced periodically in the regions of the USA.

When demand in a US region falls, unemployment rises quickly. House prices fall quickly. Laid-off workers uproot and settle in another state where the economic climate is better, and the recession usually lasts a couple of years.

In the case of Massachusetts in the late 1980s, house prices fell 40 per cent, unemployment rose to 8 per cent and the state experienced emigration. In southern California around the same time, a couple of banks with large portfolio investments in property went under and the state experienced net emigration for the first time since the turn of the century. A similar story played out in Texas in the late 1980s, and even in New York city in the mid-1970s, with the Big Apple actually defaulting on its debts in 1975.

It seems sensible to argue that the same will happen here. We have not seen any real layoffs in the domestic service sector yet. This is the sector that absorbed most of the gains in employment in the past few years, and it was sustained almost exclusively by yesterday’s pay cheque and the feel-good factor about tomorrow.

One of the most significant drivers of the feel-good factor is property value. House prices have already fallen (when all the spoofers forecast 15 per cent to 20 per cent rises this year) and more to the point, the expectations of double-digit increases in wealth associated with a double-digit increase in house prices are gone. Without this supportive pillar, consumption in this economy will slump. As consumption constitutes over 60 per cent of GDP, the outlook appears very dark.

So what about the so-called V shaped recovery? This appears to be wishful thinking. Although the markets are priced for a recovery in the middle of next year, the markets were badly wrong in the boom (remember the dotcom and the telecoms boom?) and so far, with three faltering rallies this year, have been wrong again about the recovery. So there is no consolation from the predictive powers of the global casino this time round.

An economy carrying huge personal debts, with an overdependence on an inflated and faltering housing market and a highly mobile industrial base, doesn’t inspire confidence. We have misdiagnosed our position badly.

Ireland Inc is a subcontractor for US industry. Like all subcontractors who are dependent on one big gig, the boom times seem more flaithiu�il and the slump deeper than that experienced by the main company.

So what about our V-shaped merchants? Well, back in the old days when a fan changed his team, he got a two-fingered V-shaped sign which only stood for one thing. I wonder, having spoofed us for two years, are they trying to send us gullible mugs the same signal?


  1. davidmurphy

    brilliant article,bubble will not burst until euro base is
    at 4%.then i would imagine a lot of pain and slowdown.this
    could be 24months away.would appreciate your comments.

  2. Ooopps

    Oh dear. Davy Mc gets it very wrong.

    I’d love to get Dave’s analysis on why he was wrong.

    Of course, I’m sure this post will either be deleted or he’s too big-headed to acknowledge his error.

  3. ImNotAnEconomistBut..

    indeed. preseumably the Irish were even madder than he had anticipated.

  4. [...] 10 years ago this week Borrowing Bubble About to Burst [...]

  5. molly66

    Look back and learn nothing how many times do you put your hand in the fire before you lose your hand .
    The bankers
    The government
    The legal
    The civil servants on big pensions
    The developers
    The wealthy
    The greedy I think they all suffered from the god complex

  6. wills

    David,

    I read this and then nauseousness kicked.

    I was transported back into a psychedelic nightmare of collusion, greed and deception on a massive criminal scale by a select band craven bastards.

    They orchestrated the toxic waste of the bubble would be shat down on the heads of the taxpayers and the govts who then pressgang to ECB print free money to pay off sovereign debts out of control from insider banking – developer – white collar criminals pillage of the real economy.

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