The Central Bank must move, as the Fed did in the US, to prop up Irish banks before a major catastrophe.
Ireland is now going into the early stages of a classic bad debt cycle. While many are still talking about the credit crunch, the crunch is only a mild forerunner of the greater challenge.
When one bad debt begets another, the financial system falls victim to a contagious spread of bad or unpaid debts. This is a bad debt cycle.
As people stop paying back, trust disappears and the collateral demanded to cover the risk of any new loans rises. This tightening causes liquidity to dry up, making bad debts worse. Because the financial system is based on people paying back the cash they owe, if a sufficient amount of people begin to default, the system seizes up.
The banks – as the lubricants of this engine – are the first ones to suffer. In the past few months. we have seen the unsustainable. situation where the maniacally overstretched Irish banks, have been compelled to borrow money at higher interest rates than they can lend it. If they raise commercial rates, whatever limp demand there is out there will be snuffed out.
The effect of this financial brace is to send bank shares plummeting. It is now becoming clear that Irish banks are run by bull market traders, who took enormous risks with shareholders’ capital in recent years.
When the dust settles there needs to be widespread culling of the top brass in the Irish financial industry as they have been exposed as reckless, even predatory lenders.
In this they were aided and abetted by scores of middlemen at our mortgage brokers and estate agents. They should count themselves lucky if they just face losing their jobs. In the US the FBI has been rounding up bankers and estate agents who are now due to face criminal charges over sharp practice in the property boom.
In Ireland, as we have suggested many times, the positive contagion of the past few years has naturally given way to negative contagion. Now everyone is scrambling for cash only to realise that the trough is dry. So while our banks’ quarterly results might suggest that they made good money in the past months – that was yesterday before today’s reality dawned.
It is quite clear that the Irish banks will need to raise substantial amounts of cash in the next few months. The reason is simple: no matter how the banks’ management try to spin things, construction and property apart, there was precious else going on in the Irish financial sector.
Last year, 83 cent in every one euro borrowed was going into either property or property related investments. In addition, in summer 2007 close to half all money being lent by the Irish banks was being borrowed by the banks abroad and injected into our bloated bubble. Our banks turned themselves into little more than leveraged, out-of-control hedge funds that speculated on property.
Now this strategy – which was based much more on raising their share prices than building a proper banking business – is unravelling and the bad debt cycle is taking over.
We can feel it everywhere. As credit in our economy dries up, the stories of payment defaults and bounced cheques are getting more and more commonplace.
The other day a businessman friend, who is owed a substantial amount of money from a well-known developer, was told he’d be paid ‘‘in apartments’’. When he suggested he didn’t particularly want to own apartments as he had to pay his debts in cash and wanted cash not half-constructed shells, he was told ‘‘you’ll get apartments or you’ll get fuck all!
Similarly a banker told me this week that the greed of the past five years is now putting huge stress on the system. During the boom, people didn’t want to sell anything to finance new purchases and nor did the banks care because they, too, believed the hype. Rather than selling assets to buy more stuff, people simply borrowed against the value of their existing holdings.
This financial extravagance is creating a massive dilemma, because as prices start to fall, the banks are looking for more interest rate cover on the ‘margin’ needed to cover their loans. The situation was well summed up by a prominent liquidator recently who observed that ‘‘the quality and reputation of our clients is improving by the day’’. You’re getting a better class of bankrupt these days.
The bad debt cycle leads progressively towards a countrywide, fire sale, where sellers have to sell at prices way below their original purchase price. We are talking negative equity on a monumental scale.
This the next phase of the bad debt cycle is termed the ‘‘distressed phase. In this stage, asset prices fall precipitously and banks need to make huge write-offs against these bad loans.
Rather smugly and with typical self-delusion, the Irish banking sector has looked across the Atlantic and claimed: ‘‘Well, we don’t have sub-prime mortgages, so things won’t get that bad here. Unlike the US mortgage banks, the Irish banks have not re-packaged their mortgages and sold them on to snake oil salesmen in Prada.”
But this actually makes the situation worse. An on-balance sheet bad debt cycle will take longer there to unravel. When your debts are off balance sheet – as they were in the US – you take one large big hit, but as these debts were off balance sheet, your ability to lend is unimpaired.
On the other hand, if like the Irish banks, the debts are on the balance sheet, it takes much longer to work them through. In the early 1990s, the Swiss banking system went through something similar following a housing bust in Switzerland and it took the mighty Swiss banks five years to recover.
Now let’s look at our financial options. We can sit back and take this, allow the bad debt cycle to lead to distressed selling and facilitate global vulture funds to pick off the corpse of the Irish property boom. This is what happens in the US when individual states have property crises.
However, Ireland is, as we were reminded last week, a vibrant, independent democracy with its own agenda. Whatever the economics of monetary union might conclude, politically, we are not a client state of the United States of Europe, not yet anyway. So we need an inventive central bank that has the vision to realise that Dame Street has the solution to Ireland’s bad debt crisis.
We can’t change our interest rates. However, the Central Bank can inject huge amounts of cash without changing the interest rate – if it is prepared to take a risk on commercial banks’ shares. It is now time for the Central Bank to organises a massive sale and repurchase arrangement with Ireland top five banks.
The Central Bank would lease the shares of the Irish banks for a rolling three-month period, in exchange for euro. This would give the banks the cash they need, it would put a floor on where bank shares could fall and it would allow the balance sheet of the country to be rebuilt.
This is what the Federal Reserve has been doing since last January. Not only that but the Fed has organised the bailing out of Bear Sterns, brokering a deal with JP Morgan and giving JP $30 billion to do the deal. When leadership was demanded the Fed gave that leadership.
Can Dame Street offer the same example? Is it brave enough? Or will it wait until one of our banks has a real funding crisis, leading to a panic?
Ireland is facing a crisis and we need all our state agencies to act decisively. The central bank has a responsibility to all of us not to let the bankers mistakes of the past cripple the people’s prospects of the future. A bad debt cycle could ruin this country for a number or years, but the solution is simple.
Let’s hope cowardice and indecision does not prevail. ‘‘Cometh the hour, cometh the plan.”
I agree to some extent. There were loads of mini property developers BS’ing about how much their “portfolios” were worth and these are the ones that will get rightly hammered and that is not a bad thing. However there are loads of people particularly in the last two years of the frenzy who got suckered by the fraud. That is sad. There was huge social pressure to “buy”. If one hadn’t “bought” one was considered a social pariah. It was in the newspapers, on the tv, in the pub, at work, at footbal/hurling matches. It was everywhere. It was all encompassing. It was the national narcotic of our times.
I understand why loads of people went for it. I dont understand why it lasted as long as it did. I think it was the EU ascession and the arrival of so many immigrants that kept the game rolling for probably 4 more years than it was due. Without the immigration it would have petered out with a softer landing some time in 04 I think. Anyway I dont feel sorry for Robo-Paddy. He is probably OK anyway. Robo Paddy “Light” / Robo Paddy “Last” probably got caught short. (Think Bulgarian Apartments) That is OK. People need to be aware of the fact that making “real” money by other than fraudulent means is not and should not be a snap. If it is, then it wont be that way for for long.
I feel sorry fot the poor average joe and his family who were told that they had to “get in now” because if they didn’t it would be too late and that they would never be able to have the dream of owning their own home. These people were defrauded by the Great Irish Propery Cabal. This includes the Developers, the Estate Agents, the Banks, the Mortgage Brokers. The government was part of it too because they were in the builders pockets and they loved the tax revenue. (look at the tax take now.) The media was a big part of it too. Take a look at some of the property porn on the Sunday papers from about mid 2006. (I wonder what the propery porn writers are doing for a living now?)
I remember David McWilliams did a show post-Popes Children (I think it was 2007) where he met a couple who bought in Kells or somewhere like that. They were paying mad money for the house, mad money for child care and driving mad distances on terribly congested roads into that mad place they call Dublin every day to work in jobs where they did not make enough money to keep it all going. Their life was challenging to say the least. They came out on the show and said that they were sorry they bought. They were the 1st ones I heard say that out loud. These are the people who were defrauded and these are the people I feel sorry for. Not the micro developers.
Ger
Tough. Everyone has free will. You need courage to exercise it but you do have it.
Whatever we do, let’s not throw the baby out with the bath water. Stabilise first, then let’s see what happens. I do hope Cowen does reign in current spend aggressively, does not raise taxes and maintains capital spend. That’ll send the right message to the markets – which might help a lot with the banking crisisi and do a lot for a social contract which I feel if a bit in tatters right now.
The masses were once used to looking up to and respecting authority.
That is a cornerstone of a developed society. Now the ordinary people realise they have been betrayed by those professionals and experts in whom they put their trust.
The ordinary people were cheated and robbed by the Barons whose duty it is to protect them.
It is not fair at all for those to say that the people deserve what they got for being so stupid- what other choice did they have? and indeed they acted because they believed that those who should know better- knew better, and that everybody’s interests were being cared for in the long run.
The shock is now that sense of betrayal. It was fraud on a massive scale.
It will be very hard to recover that trust and Irish society will now suffer tremendously.
It is also not fair to suggest that these same crooks and scamsters should be bailed out by the very people they have robbed!!
Let the buyer beware. Peer pressure and social norms compelled people to buy but they did decide to suspend their reason.
B,
In individual cases yes- but in this case- en masse they had their reason suspended for them by a seriously corrupt and unscrupulous power clique.
I still do not agree. Let the buyer beware. People must be responsible for their own actions. Its called being an adult.
B,
Nonsense, in that case there would be no such thing as Government!
That is what it is there for- to guide and inform and instruct and organise and control the people.
In this case the Govt. abandoned their responsibilities to profit for themselves.
It is a serious issue…and one reason for a No vote to Lisbon also,
Having been cheated the people may indeed now learn their lesson and start thinking more for themselves- though after the horse has bolted.
I remember a few years ago, everyone was giving David McWilliams a hard time for suggesting that this was going to happen. I also remember being laughed at for suggested that the property market might nose dive, those sort of moments always stay with you, when you get mocked for going against the grain (this was about 2003), and suggesting something so ludicrous. Well I did buy property, I bought a place that I could afford to pay for in a downturn, and a place that was on a rail and bus (plus night bus) link to Dublin city centre. The company I took out the mortgage with tried to persuade me not to but this place, and to go for a more expensive piece or real estate, I am glad now I did not fall for this scam, and anyone who is saying that the financial institutions are in no way to blame, probably work for a bank or some other cowboy organisation.
I was also laughed at for not buying a house and making the point that most people were not “buying” at all, they were merely renting some of all of their houses from financial institutions. At the time I compared spiralling house prices to the rackrents of the 19th century and estate agents to the land agents of the Ascendancy who crippled Irish tenants with spiralling rents. It’s a no-brainer to compare the repossessions of today to the evictions of the 19th century. Saddest of all, the collective Irish memory of the 19th century land war is what drove people to sacrifice so much to possess their own bit of property in the 21st century.
The bankers, estate agents and builders who drove the property boom in Ireland should hang their heads in shame, not to mention those in power who aided and abetted them. They dazzled the Irish people and convinced them that the only way to get rich was by trading in property. As a result our innate creativity and inventiveness has been dampened down over the last decade.
I could not understand why people were buying property they hadn’t even viewed in Eastern Europe when it was obvious that oil prices were going to rise along with the cost of flights which would have an adverse impact on the value of these properties. Back in Ireland people built Southfork style houses with cavernous interiors which cost a fortune to heat or queued to buy badly insulated matchbox “homes” in jerry built housing estates miles from anywhere including the nearest shop.
Poor infrastructure, lack of proper public transport and the housing boom has made Ireland an oil junkie. As a result the oil companies have benefited greatly from Ireland’s housing boom. Despite the increased demand for petrol and oil, many petrol stations throughout the country have closed.
Don’t be surprised if we soon have to queue for petrol like we did in the early 1970s.
Just read that Bank of Ireland staff are going to strike because their annual bonus has been cut from 6% to 3%.
The IBOA has estimated the cost to individual staff members at between €2,400 and €5,900 each, implying that their basic salaries rise from €80,000 (presumably for a raw graduate) to €197,000 per annum.
Do these generous salaries reflect their worth to the Irish public—or what?
Philip,
to answer your question about when a Bank goes belly up, are loans repayable? Well, yes, they are. Deposits are not guaranteed to the full amount, and banks, if they have made mistakes can lose money and run out of money to give back to depositors. And you can have a so-called run on a bank. However, a loan is an asset for the Bank, which if transferred to another institution, would result in a full payment. Thus they are likely to followup on all debts/loans vigorously.
By the way, shhh, dont tell everyone, but if we ALL go to the banks (any bank) and take out our money, they will go ‘belly-up’. The reason is that they havent kept your money, its loaned out, indeed many have loaned out 12 times what they have on deposit using ECB/Central Bank ‘virtual money’. The whole banking system is based on printed or virtual banking credit, and not on ‘Roman-style’ credit where real gold coins were given out, and where money had a physical limit. Money is trust, pure and simple, and we have been giving ourselves lots of ‘free trust’ across the globe for many decades now. The whole thing could come tumbling down if trust is lost, as what happened in the US in ‘the crash’ of the 1929/1930′s. The great depression could be better written perhaps as the great mistrust.
The Northern Rock example in the UK is one where the UK Government guaranteed deposit amounts in full. They are also seeking the loans in full. The way that NR financed their money however meant that the bank was losing money on end-to-end loans, so NR is trying to offload their loans and negotiate better ‘money’ sources. This will take time to repair, but repair is possible.
The Irish Government could do something similar but it would be a case of nationalising an about-to-fail bank when its value would be severly depressed, managing it through the hard times, keeping it trading, guaranteeing deposits, etc, and ‘winding down’ the business until it becomes break-even. It could then be sold to a private institution to manage it back up again. In that way, loans can get paid off, deposits dont lose value and the government keeps the trust value up, saving everyone a lot of pain.
Mind you, it would be fun to line previous managers up and shoot them, well, with paintball perhaps … we are not savages. ;-)
MK
I agree the government needs to be there to regulate but nobody put a gun to anyones head. If you want to buy you will buy and it depends on how much heed you place on social norms.
You have free will. Use it.
David:
Today I got a letter from my Bank. It said, “You deserve a holiday. Now you can with our promotional loan rates.” But that’s not the big thing, the letter was printed on the back of the loan application. This has never happened to me before.
David Nolan,
Aha! A full indication of Banking desperation now in play!!
and B,
Free will is as much available to a citizen as a free mortgage…
Hi David
Since your day’s on Newstalk mornings I have found your economic commentary on Ireland excellent and extremely forward thinking. I only just discovered this site and have truly enjoyed your own points, but also those contributions from your readers. Excellent forum for debate.
I just wanted to interject on one of the points you made above relating to the worsening financial situation many Irish people find themselves in today, but especially around mortgages and the house market.
I worked in London as a Pensions Analyst during the miss selling of private pensions controversy in the late 1990’s. This was during a period when the UK government made pension providers repay all lost funds to clients who had been extremely financially damaged by the most underhanded selling practices and bad financial advice seen in many years. The companies involved (which in truth was every single pension provider) had a major financial hit and changed their practices accordingly.
In my opinion the house price boom in Ireland should have slowed down in 2001/02 – since that time it has been fueled by the ridiculous lending practices of the Irish banks and mortgage brokers (who knew how to cook the figures and the banks who turned a blind eye to ridiculous salary certificates etc). I know the banks have now tightened nearly all forms of lending, but it was their practices that allowed the boom to continue way past its “bubble” term and well into “balloon” territory.
The estate agents were equally to blame – but that is really a different discussion. To me there needs to be a formal process put in place, regulated, so that all bids can be tracked and monitored. But Estate Agents seem immune to a common and decisive call for change – so I will leave it there.
I can foresee a miss selling of mortgages scandal in Ireland emerging where people who find themselves losing their homes and their good names taking these institutions to court. The target driven bank branches were pushed to lend ever-greater amounts to anyone willing to fill in an application form. Their underwriters and lending analysts turning build to basic warning signs under instruction from senior management and pressure from colleagues in branches whose bonuses relied on sales targets. Although I am now out of the property market, I was personally given a mortgage of 10.34 times my salary and I did not even lie on my application form.
David, your comments concerning some key executives losing their jobs to me is too soft. There needs to be an independent review of what happened to house prices over the last decade and for governing practices to be put in place to ensure this can never happen again. This to me includes estate agents – but again that is for another days discussion.
Regards and please continue to create debate and change in Ireland
ire in exile,
you just don’t get it! everyone has free will. i chose to rent. i chose to be cautious. i chose to believe the slump would come one day.
did bertie ahern call around to your house with a gun in his hand and point it at your head and tell you to buy?
your logic of “everyone is doing it so i should too” is utterly flawed.
if everyone you saw was jumping off the cliffs of moher do you follow? or do you think about the possible outcomes?
Colin,
I’m not talking about the cute hoers who wouldn’t buy no matter what the outlook was because they were all too aware of everything, and wouldn’t risk their precious necks. These Knowalls are now crawling out from under their rocks from what I can see in these forums, bleating “I told you so” with smug satisfaction.
….and I myself am chief amongst them!! (can hardly contain my self satisfied glee to be honest.)
I fled out of the country in 2000 because I saw it all as a massive and perfidious scam and not only was I personally not going to be swindled, but I couldn’t bear to watch.
I’m talking about the more innocent. The ordinary and always vulnerable people on the ground, who were bullied and press ganged and intimidated (by fear) into taking part, based on following the advice and information of “experts and professionals” they had learned in the past to trust. Not just the banks or the real estate agents, but the Government.
This is where free will was removed, or at least altered- by creating an environment of fear, and that the only danger was in losing out.
How many people with flats in Bulgaria have had the training or information about the realities of such deals. They were coaxed, and goaded along by the profiteers who have fled now that the situation has become an ugly reality.
It was all lies, and fraud- and someone should have said it out clearly.
The Government in particular had the responsibility to do so.
That is what they are there for, if we all exercised such deft “Free Will” we should have no need for a Government would we?
How many people write their own prescriptions because they believe they are smarter than their Doctor?
The property scam and current debacle was indeed exasperated by the fool hardiness of the people (that is not rare) but they themselves bear little responsibility for it coming into place….?
ire,
someone who would “write their own prescriptions because they believe they are smarter than their Doctor” would look stupid when complications arise, as problems will more than likely arise later on. ignorance would be the root cause of their problems. they’d only have themselves to blame. they’d present themselves in hospital and be asked why on earth did you put yourself in such harm and feel like a complete spa.
its not a government’s job to tell people to buy a house. it never was and never will be. they never told me to and i never met anyone who said they bought their house because the government told them to.
you say “ordinary and always vulnerable people on the ground, who were bullied and press ganged and intimidated (by fear) into taking part”, …. bullied, press ganged and intimidated are completely the wrong words. you make it sound like northern ireland in the 70s where your life was at risk if you didn’t do what they were told to do.
it was their peers who influenced them most. its called keeping up with the jones’ and free will allows everyone to accept/reject peer group pressure. is it right to take drugs if your peers are all at it? is it right to commit suicide if your peers are all at it? is it right to buy a house thats 12 times your salary if your peers are all at it?
Hi Colin
Just following on from point directly above regarding people prescribing themselves their own medicine – as you mentioned if the person arrived into hospital with complications many would view him as an idiot.
But I think this analogy was meant in the wider sense – i.e. every doctor leaves every drug ever created in every doctor’s waiting room in the country, with leaflets and marketing literature from the manufactures (and only from the vested interests) selling each drugs benefits and wonders. There are no warning signs in the waiting rooms, and all other medical “professionals” and “experts” are telling you that everyone else is prescribing their own drugs and really why not sure “don’t you know your own body better then any doctor”. The government has no comment to make on the situation and the doctors themselves are leaving out little empty bottles to make it easier for you to carry the drugs home in. All media “medical” supplements tell you how great people are feeling and how the nation is becoming one of the most healthy in the world.
Now, when someone dies, whom would you hold responsible?
There is little point opening a philosophical discussion about the parameters of free will-
History is littered with populations being coerced into adverse situations by their governments. But generally these governments will have had the interests of the public and the Nation in mind in the broader perspective, whatever debacle they may have led themselves into.
The point is that this govt. and the many experts and professionals lured the Nation into a scam on a massive scale. They were aware of the inevitable outcome but did nothing to prevent it because they were busy lining their own pockets. The ruling elite in the country were profiting from a fraud and thus perpetuated the situation for profit instead of taking the necessary measures to stop it as is their duty to do so. That is the scandal.
Of course the wider public are often stupid, docile, impressionable and easily influenced- that’s why Fashion exists. But to say that each individual is personally responsible for making poor choices in the property farce is neither fair nor correct.
Choices are made based on an environment and the information received about it.
The environment was almost certainly known to have been false by the mafia clique promoting the boom, and the government knew about it too, but did nothing to prevent it. I don’t blame anyone for joining in, because, they were sold a false impression- a misrepresentation of the facts by the people they normally have to trust.
So back to the Doctor – if The Doctor tells you your leg is to be amputated, do you say “no it’s just a headache I know better than you” and leave the clinic?
No, you will immediately engage the choice between a stick or a prothesis, because you have been listening to someone who is more educated and knowledgeable on the subject then you are yourself.
This is what happened in the property scam choices were defined based on the prevailing information and advice.
This is a matter of trust. The people were lied to, they were hoodwinked and they were robbed, by the very institutions that are there to protect them…..and that trust, once blighted, is extremely difficult to regain.
no. you go and get a second opinion from another doctor if you think there is a chance your leg need not come off, and a third opinion if you still think the previous diagnosis may have been somewhat flawed. then you can arrive at a position to know all the avenues have been explored.
did property buyers choose not to listen to George Lee or David McWilliams about the prospect of negative equity? or jobs going to asia? or interest rates rising?
as warren buffet once said, nothing undermines a person’s financial judgement more than the sight of their neighbour getting rich.
i’m gonna leave it at that.
Very interesting to see all the negative comment on the banks and their top brass. They had very little choice in a competitive market. Any banker that refused to issue credit at a profit on what has traditionally been rock solid collateral (bricks and mortar!) would be out on the street in no time. Then someone who is better at lending money would step in, that is the nature of competition.
If there had been no competition, i.e. if the banks had all got together and decided that they wouldn’t offer credit at an ever lowering margin and an ever inceasing risk then imagine the outcry. The problem is that it went too far because of the cheapness of the credit. So now we all (via the banks) have to endure some pain to pull back to reality.
There are always a few cowboys on every profession but in general you need to look at the market, the regulator, the Government, the Eurozone – don’t necessarily blame the hapless banker who was doing his job.
Also, there is not much comment on the fundamental nature and purpose of a bank and a banking system. Let’s remember that it is a social instrument through which those that have money lend to those that haven’t. Sure, it is all wrapped up in markets and capital and so on but that is just for efficiency. At the end of it all if a bank goes belly up it will be the the individual shareholder / depositor / pension fund (YOUR pension fund) that suffers the loss.
As David has commented frequently before many of these are prudent German savers who, via German banks, dished out vast quantities of credit at a keen price. They did this because there was very little else that would give a decent return in Europe, that’s why Euro interest rates were so low.
It is in nobody’s interest for any bank to go under. That would reduce the avenues through which credit can be obtained, reduce competition and ultimately increase the cost of credit to the borrower.
If the state steps in to prop up a bank it will be to protect the long-term interests of its citizens by maintaining a healthy banking sector that can continue to funnel credit to those that need it, be they entrepeneurs or prospective home-owners or whoever. There are no vaguely defined fat cats that need clipping, it is all of us.
I, for one, am hoping that none of the banks run into a crisis. If they do I hope they will get a fair hearing for why they deserve to be cut some slack and maybe even given some support by a society that encouraged them to fulfill their purpose and keep on lending.
Damien: You are just perpetuating the myth originated by David in The Pope’s Children that all the cash sploshing across the country over the past decade came from the savings of prudent but unimaginative German pensioners. In fact much of it was conjured out of the bright blue sky, using a combination of smoke and mirrors too complicated to go into here. It is a fallacy to suggest that the “fat cats” (your expression) didn’t know what was going on. They were caught up in an international whirlwind of greed but they were the professionals who understood the dangers, who should have advised the public and put on the brakes, but who sat on their hands and did nothing. It is also a fallacy to suggest that their collateral comprised simply of good ole bricks and mortar. As has been discussed here the bricks and mortar element in house prices was maybe €120,000; the rest was just hot air in the speculative bubble the banks encouraged. So now “we all (via the banks) have to endure some pain to pull back to reality” do we? While the top bankers and their buddies the land hoarders, walk away scot free?