November 5, 2008
Yesterday I spoke to a friend — let’s call him Mike — a hard working, non-greedy, frugal individual. This is not the sort of bloke who went out and splurged in the boom. He has a house, a car and, up until recently, a steady job. He lives for his children, his family and yet he is in serious trouble.
While Mike saw through the hype of excessive lending, his boss did not. The owner of the company borrowed up to the gills, swallowed up competitors and expanded in an ego-driven adventure which saw his company become the biggest player in their — admittedly small — sector. The “growth” of the company was entirely debt-driven, leaving it with a huge borrowing overhang. As long as the banks were happy to keep lending, these huge loans could be serviced. Revenue growth was strong, so all looked kosher. The boss reacted to the increased debt burden on the balance sheets by setting the salesmen ever more ambitious targets and incentivising them with cars, bonuses and holidays.
This time last year when the Irish banks’ share prices started to fall, no one in the company worried because the problems were in the property market, which was a totally different sector. As banks’ share prices fell, their ability to raise money was impaired. But there didn’t look to be a real problem. Mike at this stage was oblivious to the “credit crunch”, which he’d never heard of ; little did he know it would affect his ability to buy presents this Christmas.
Yet over time the banks began to admit some small amount of “impairment” on their loan books.
Initially, these losses were said to be small and manageable. However, they were far from that. Meanwhile, back in Mike’s company, rumours began to circulate that salesmen were missing targets for the first time in seven years. The annual golf trip in June was postponed, as was the corporate 4X4 orienteering away-day.
When the wholesale money market closed as a result of the collapse of Lehman Brothers, Mike read the story on the second page of the ‘Herald AM’ free-sheet. It was up there with stories of drug busts and a B-list celebrity wedding. It didn’t concern him, after all it was an American investment bank. But the closure of the wholesale money markets led directly to the Irish banks running out of their main source of funding.
They had bet the house on borrowing in the international markets to lend to Irish property. Now they couldn’t finance their businesses. Nobody trusted them anymore. They had been telling investors that all was grand, but obviously the banks were up to their gills in the Irish property scam.
A few days later, the bank’s HQ sent the message out that all loans were to be reviewed, all debts — where possible — had to be collected and no new lending could be sanctioned without senior management consent. What seemed remote was coming home to roost.
The debt of Mike’s company, which had been secured against the notional value of all the assets, began to look enormous and dangerous. As income faltered, because the banks were reining in credit everywhere, the company missed a monthly repayment. The bank, afraid to admit to yet another bad loan, told the boss that they would roll over his interest for a few months. The price of this reprieve was that the boss had to raise money.
The banks told the boss that he’d have to find the cash from cost savings otherwise they’d have to act against him, calling in the personal guarantees he’d signed in 2005. This meant the house and the holiday apartment in the Algarve, as well as the numerous houses and apartments he had bought in the boom — all of which had fallen dramatically in value.
So to save his hide, he started to cut. Hard-working, frugal Mike was in line for the chop. When we spoke yesterday, he was angry with everyone, the banks, the boss, the Government and even the immigrants, who still had jobs. He spoke to me about someone having to “look after Irish people first” and how we couldn’t just continue to support every “Tom, Dick and Harry” who showed up here. Mike was seething about the public servants and teachers who don’t realise that they are protected, and he insisted that next time he’d vote for someone who would “sort it out”.
These types of conversations are happening all over the country and they emphasise how the global economic meltdown permeates every corner of our society.
It also explains why we will see a wholesale change in the way this and other countries are run. The political pendulum is swinging. In the US, Obama’s campaign, which was running into the sand in September, got a huge kick from the financial crisis. People saw the collapse in the real economy, retail sales and house prices, concluding that someone must “sort this out”. However, if Obama is America’s agent for change, who is Ireland’s and Europe’s? This question is significant because America’s response to the crisis is probably quite different to Europe’s.
This economic and political cycle has three distinct stages. The first stage is the financial markets phase. This is where shares collapse. This can be very sudden and unforgiving, but it happens quickly and on present evidence, it might be abating somewhat. The speed and severity of the fall and the consequent destruction in wealth might have something to do with it. At one stage last week, the Dow Jones was down 44pc in a year, almost half the world’s financial wealth that was held in stocks had been destroyed and many investors are now indicating tentatively that, with central bank help, the worst might be over.
The second stage then sets in and this is the real economy slump. We see this in Ireland with house prices collapsing, unemployment rising and the public finances going into a dreadful tailspin. Gradually, job losses mount as heavily indebted companies go to the wall and thousands of workers, like Mike, find themselves of out work. We are only seeing the beginning of this phase.
The third stage is the socio-economic and political stage, where this giant economic and financial upheaval leads to significant social change. This has not even begun in Europe. America was lucky in the sense that its agent for change, Obama, far from being radical, sounds like a member of Fine Gael.
When stage three plays out in Ireland and the rest of Europe and the hundreds of thousands of newly unemployed, yet innocent, victims go to the polls, we will count our blessings if we have someone as plausible as Barack Obama leading the charge for change.