Tuesday 28 February 2017

Why the mortgage crisis could be a €40bn problem and not a €6bn one

Dan White

Dan White

COUNTING THE COST: UCD economist Morgan Kelly has estimated that the overall cost of
debt-forgiveness could be €6bn. Photo: Gerry Mooney
COUNTING THE COST: UCD economist Morgan Kelly has estimated that the overall cost of debt-forgiveness could be €6bn. Photo: Gerry Mooney

After bubbling under the surface for the past three years the issue of mortgage arrears finally erupted this week.

So just how big is the problem? Almost certainly a lot bigger than most of us realise.

The latest banking statistics from the Central Bank put the total of residential mortgages owed to the Irish-based banks, both domestic and foreign owned, at €98bn.

This figure doesn't include the mortgages that the Irish banks have sold, or securitised to use the correct term, to investors.

However, the Central Bank's most recent edition of its Irish Economic Statistics states that per capita Irish mortgage debt now stands at €30,377, including securitised assets. Multiply that by the population and you get almost €136bn, which is the true level of Irish mortgage lending by the domestic and foreign-owned banks.

So just how bad is the problem? Last week the Central Bank published its latest statistics on mortgage arrears. These showed that almost 56,000 mortgages were more than 90 days in arrears at the end of June. When you throw in the 70,000 mortgages which have been restructured by lenders, of which 30,000 have fallen into arrears once again, it can be seen that 96,000 mortgages are either in arrears and/or have been restructured.

That's equivalent to one in eight of every residential mortgage in the country. Unfortunately, the underlying level of arrears is almost certainly even worse. The Central Bank's arrears statistics don't include loans where the borrowers have contacted their lender and come to some sort of a temporary arrangement.

With the Code of Conduct on Mortgage Arrears, to which all of the banks have signed up, stipulating that no lender can take legal action against a borrower for 12 months after the borrower has entered the mortgage arrears resolution process, there are almost certainly tens of thousands more problem mortgages that have yet to appear in the official arrears statistics.

And it's not difficult to see why. Since the start of the recession more than 250,000 people have lost their jobs, while house prices have fallen by 43pc since their early-2007 peak. This combination of job losses and a property price collapse is a lethal one for mortgage lenders. Toxic doesn't even begin to describe it.

So just how bad could things get? Very bad indeed. A March 2010 report by the ESRI calculated that more than half of all mortgages would be under water if house prices fell by 50pc.

As the most recent house price figures from the CSO demonstrate, we have almost reached that point. And house prices almost certainly have further to fall.

Even after the near-halving of house prices over the past four years, the average house price is still the equivalent of almost six times average earnings.

What this means is that all of the major Irish banks are looking at 25pc-30pc writedowns on their mortgage books.

That's bad, bad news for the Bank of Ireland, which has €28bn of Irish mortgages on its books; AIB, which has almost €30bn; Permanent TSB, with €27bn; and EBS (now part of AIB), with €16bn.

That's a total of just over €100bn. Even a 25pc writedown would cost the Irish-owned banks more than €25bn.

And that makes no allowance for loss-making trackers, about 60pc of all mortgages. All of the banks are losing heavily on trackers, which are tied to official ECB rates.

An acquaintance of mine with a €450,000 tracker mortgage with a foreign-owned bank was offered €100,000 to convert it into a standard variable-rate loan. That's the equivalent of a 22pc writedown. Add that to the mix and the Irish-owned banks are looking at a further €13bn of losses. In other words, between arrears and losses on trackers, it's hard to see how the Irish-owned banks can escape with losses of much less than €40bn on their mortgage books.

That's a multiple of the estimated €6bn cost of the mortgage debt forgiveness mechanism suggested by UCD economist Morgan Kelly. Which is why, if all possible, our politicians are desperate to kick the problem down the road.

While this is an understandable response to what is shaping up to be an enormous problem, it is also the wrong response.

The longer the delay in dealing with it, the higher will be the cost of fixing the mortgage crisis.

This is because if the crisis drags on indefinitely with apparently no resolution in sight, even homeowners who can afford to meet their repayments will despair of throwing good money after bad and default.

All of which means that as the full extent of the mortgage crisis begins to become apparent we can now see that what we are confronted with is the equivalent of a second Nama. That's a truly frightening prospect. Bailing out the builders and property developers cost the Irish State its solvency.

What will be the cost of bailing out several hundred thousand mortgage borrowers?

Sunday Indo Business

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