February 7, 2005

Chronicle of a Debt Foretold

Posted in Celtic Tiger · 3 comments ·
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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.


  1. Laura

    As always – excellent article and clear thinking.
    I’m surprised you don’t mention demographics as this seems
    to be a large factor in the apparently insatiable demand
    for housing purchases, and secondarily the rented sector.
    In 1910 (I think it was anyway) 90% of the Irish living in
    rented accomodation and 10% owned their own homes. Now
    those figures are almost reversed. The problem I would see
    is the housing situation outside of the greater Dublin area
    and in areas like the midlands and south-east that are
    currently popular spots for desperate housebuyers.

    In 1997, for example, you could purchase a terraced house
    in Wexford town for around £30,000. At that point there
    was already major concern about escalating prices in
    Dublin, but much of the country was effectively untouched.
    The problem now is that areas like Wexford now effectively
    have the price ranges appropriate to Dublin in 1997, but
    with much lower median wages. Likewise (and a much worse
    case) “tourist” areas such as Kerry and West Cork where
    locals on relatively low wages are driven out of the market
    by hostile pricing. An example of this is in Youghal, Co
    Cork, where a local auctioneer advertises his prices in
    sterling, quite blatantly trying to sell to a potential UK
    retiree with ready cash rather than a cash strapped local.
    Now what happens if there is a demographic drop (as is the
    pattern elsewhere in the world) in 30 years time? Who will
    buy these houses? In fact who will buy them in 10 years
    time once the incentives are gone?

    From the Irish Times, Jane Suiter 17/02/05

    “At the same time, 10 years on from their original launch
    many of the original seaside schemes are coming to the end
    of their tax incentivised life. As a result hundreds of the
    apartments and homes are likely to start coming on the
    market this summer and some fear that prices could come
    under pressure.

    Since the schemes were first launched on a pilot basis in
    July 1995, the tax relief for resort areas has proved
    popular with investors, so much so that demand has often
    exceeded supply. Tens of thousands of investors have poured
    cash into holiday homes from Achill to Courtown. as well as
    inner city renewal areas which were introduced earlier. The
    incentives worked in different ways but essentially
    investors have been able to utilise substantial capital
    allowances for set-off against either income arising from
    the letting of the holiday cottage or profits from the
    trade for which the holiday cottage is used.”

    Secondarily to the above, the B&B trade in Ireland is
    suffering huge pressures from hotel competition (again some
    of whom benefitted from rural tax incentives) so its hardly
    likely that there are profits to be made in renting such
    properties come summer 2005 onwards.

    We’ll have to wait with bated breath for the midsummer when
    the first batch of these properties reach the end of the 10
    year scheme.

  2. adrian

    Buckle up and brace brace! the stewardess screams,
    ‘beep beep Pull up pull up beep beep’ the auto pilot
    chirps! but heh there’s no one at the controls, Captain
    Charlie has bailed out with his golden parachute.He had
    taken her up too high too quick. He knew the bird was
    going down, the wings were all iced up with interest and
    there was just too much debt on board, – the tailspin and
    hard crash a foregone conclusion!

    Back in cattle class the passengers were frightened. Newly-
    weds Orla and Sean had recently purchased in Rathmines,
    Orla is 37, they could now no longer afford to have kids.
    Old Mr and Mrs McSorley were likely to lose their family
    home – they remortgaged once too often to assist their
    family onto ‘the property ladder’. Fast Eddie McFly was
    the first to go, hung himself in the planes toilet. He
    couldnt hack it having recently purchased four duplexes –
    bankruptcy was such a handier way out, poor Eddie oh but
    why?

    She thumped right into a row of houses -it was ‘Reality
    Row’ all souls were lost.

    The complicity of silence is deafening. The Irish housing
    market is ridiculously overvalued and an ongoing supply of
    new houses will bring the house down to fair market values.

    In the meantime the govt is trying to avoid house prices
    returning to fair values as they fear the inevitable
    tribunal merry-go-round that will follow. They are busy
    trying to reduce the new housing supply.

    The incentive for a first time buyer to order up a new
    house has been removed. The government did this when it
    removed stamp duty from second hand houses for first time
    buyers. The governments previous introduction of a local
    council levy on the construction of new houses reduces
    supply by chipping at the builders margins discouraging
    them to supply.

    The efforts to curb supply will not hold prices up at
    their current heights. Confidence comes and goes, interest
    rates fall and rise, markets boom and bust, its just the
    way it is.

    In my view the inevitable will happen to the Irish housing
    market as the building industry contracts supply – the
    negative economic effect may topple the market.

    Failing this American debt and a weak dollar will
    initially have a negative effect on the Euro area,
    interest rates remaing low for a while against a back drop
    of job losses which may topple the market.

    Longer term the weak dollar will spark off and fan
    inflation in the U.S. Its a globalised world out there and
    inflation will spread quickly like an economic cancer.
    High interest rates are the only painful cure to head off
    terminal inflation. Its like economic Cheemo! Hold on
    tight.

    If you want to take a ridiculously long term view; as
    Chinese and Indian corporations mature economically,
    Ireland shall represent an excellent European haven. If
    your lucky enough to afford children keep the farm for the
    great great grandweans!!!

  3. Christian

    The Dogs on the street have known this time immemorial, our
    whole economic way of living is based on Boom & Bust, and
    this perpetual dynamic is the force that keeps the
    capitalist machine well oiled.

    Those who will feel the impact most will of course be the
    over-burdened Scio-economic-middle-income workers to busy to
    concern themselves with life as outline by David above
    concern to foresee or understand the nature of the slow &
    sudden tectonic shifts that our economy is governed by.

    So when it happens too many it will come as an unwelcome
    guest. A surprise,

    Property Black Spots will appear all over the country and
    those most at risk are the one who live (forget about the
    absentee investor/landlords)in what are unimaginative alien
    pseudo suburban blots that are appearing like a mildew on
    the rugged canvas of Irelands landscape.

    Poor off-the-shelf-carpet-housing of the “gap filler”
    variety is thrown up with no reference to the environment
    and the world of global awareness.

    As the engineering eco-father Buckminster said, “the
    American house has not been redesigned in over 150 years…
    the average American house with all its services etc.
    weights more than 100 tonnes” such far reaching notions
    still do not seem to have made a blind bit of difference to
    our approach to living in Ireland either. We still build
    inefficient houses were ever the land is available and
    zoning allows.

    Buckminster Fuller in post WWII era pioneered the idea of
    providing a house for the average worker using the motto “A
    House at the Price of an Automobile!”

    This would be achieved by mass production in the
    post-war-tooled factories of the US. Which now had such
    surplus capacity that it seemed imperative that US industry
    should now work for the people, the people who just fought
    with their lives to save the world as they knew it. However
    we know how history turns out…

    Buckminster fuller prototyped a Aluminium house, designed to
    withstand tornados (how many 100 of billions might this have
    saved if we view the decades of hurricanes & tornadoes to
    plague the massive open flat lands of the US) at the cost of
    an automobile, only weighing 3 tonnes. What a material
    saving and the house could be built in weeks if not days. It
    will probably come as no surprise that Bucky is responsible
    for the term “doing more with less”. This really guided his
    whole life and was a necessity of the time; since so many
    people needed to be housed he recognised the finite nature
    of the world?s resources. All this in the 1940s…

    What have we got in 21st Ireland, I dare not look!

    Houses that depend on oil or gas for heating, houses that
    still have tiny windows (blinkered to the glaring reality)
    Heavy tilled roofs ignoring the billions of giga watts of
    power hitting the planting sent for free by the wondrous
    sun.

    Houses so far out you need oil derived, and an oil dependent
    mode of transport a car, whose engine is still on 25%
    efficient in power terms.

    Oh yea we now seem to be in a era of mass production what
    with nearly 80,000 being built in 2004. Yet the nature of
    this mass production is simply due to the decades of under
    planning, corrupt zoning and the dire need to catch up! So
    it mass production compromised and implemented by a building
    cartel on there terms, fixing the prices, fixing the
    vernacular form of housing thus imposing the same tired old
    material into ever lesser version of themselves.

    It?s not only a property crash we should be worried about,
    are these houses really in the long-term sustainability of
    the planet and humanity.

    Watch the prices fall; see the sea as she rises. Only then
    will all boats float.

    For more info on the myriad of positive world changing ideas
    of Buckminster Fuller you can go to the website of the
    institute set up in his name. They even put him on a US
    stamp (pity they didn?t really listen to him)

    http://www.bfi.org/

    You will also find references to his factory mass produced
    house.

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