News Brendan Keenan

Thursday 18 September 2014

This time may be different but it will still be dangerous

Published 07/08/2014 | 02:30

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Stephen Byrne's illustration

What keeps one sane after 35 years in this game is that, unlike apparently more exciting but ultimately repetitive briefs such as sport or politics, in the field of economics and business, nothing is ever the same.

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There is also the harmless amusement to be gained from watching the unshakeable belief of so many that things will turn out the same. Not so harmless for them, mind you, if they invest their money on that belief - or plan their election campaigns.

The coalition, one hears, is determined not to repeat the mistakes of the 1997 campaign. Like the poet Wendy Cope, they will probably make a different one instead.

Right now, the surprise is seeing so much discussion of the property market being based on the events of ten years ago. One would have to have been watching for a lot longer than 35 years to have seen anything like the present set of circumstances. Centuries, in fact.

We owe it to the meticulous Dutch bureaucracy to learn that King Billy paid more for the money to fight the Battle of the Boyne than the Netherlands government would have done on borrowings made last week.

The most recent drop in bond yields brought the French back to 1850. Astonishingly Spain which, let's face it, is still not in the healthiest state - saw the rates charged on its government debt at the lowest levels in 200 years.

This can't be right. And because it isn't right, there is every reason to be nervous. Living in conditions not seen for centuries means the future is even more unknowable than usual. One would not think so listening to chatter which seems to come straight from the property supplements of 2005.

There is no cause for general optimism over these new records for cheap money once one looks at the reasons given for the latest dip. They include the war in Gaza, the threat of Russian economic retaliation on Europe, and the belief that the European Central Bank will have to print more money because of the absence of any significant euro zone recovery. Fear, not hope, rules the market.

Borrowers may have some cause to rejoice. These include the happy folk on tracker mortgages and the Irish Government. The latter can bask in the apparent return to normality - and better than normality - by borrowing at half the historical cost. This disguises the fact that Ireland's 2pc rate represents a juicy reward for money desperate to 
find some way of maintaining its real value.

The search for any kind of return was a major driver of the rise in Dublin property prices. Once it seemed that Armageddon was postponed, US funds leapt on hotels at prices which gave 10pc plus from annual revenues. NAMA got the ball rolling in the office block market by offering 8pc yields.

These were good returns by any historical standards. With German government bonds paying just over 1pc, they were exceptional and pay for a lot of risk. As yields fell and prices rose, the carrion crows followed the vulture funds, which are able to fly off sated with the profits made by selling properties. We will try not to think about the fact that some had their first feast doing the same with Irish government bonds.

The same has been true of residential property. Once "unsaleable" apartment blocks followed unsaleable hotels onto the market. The financial arrangements of investment funds are complex beyond belief but the calculations for individuals with cash were as simple as could be.

Typical deposit rates are now around half a per cent while, until very recently at least, a property for rent could yield 4pc. I hasten to add that this does not represent an invitation to invest; merely a description of what seems to have happened.

Truly, the hardest advice to follow from Warren Buffet, the Sage of Omaha, is among the best known: 'be fearful when others are greedy, and greedy when others are faithful'.

At the height of the boom, properties were selling on yields of less than 2pc. The average mortgage repayment was 35pc of average disposable income. That is not the case now. Prices may have risen some 30pc in Dublin but, due to the strange arithmetic of percentages, are still 40pc below their bubble peak. These are figures to bear in mind and keep an eye on.

The danger we face is the one which causes most recessions - but not that of 2007 - a sharp rise in interest rates. Even those "normal" recessions follow a period of buoyant growth. A rise in the cost of money because a depression seems to have ended is another rare, unpredictable event.

Windfall

Those most at risk include the lucky folk on tracker mortgages. Just as inevitably as spending rose during the boom to match the rise in disposable income, most of those borrowers will have spent their invisible windfall - especially with the hit to disposable income from taxes and charges.

Such a rise in interest rates seems a very long way away, and it probably is. Central banks do not want to make the Japanese error of snuffing out a recovery by tightening too soon. Right now, especially in Europe, they do not even have a recovery to snuff out. More loosening, not tightening, is on the way, although exactly how and when remains a bone of contention.

The low yields are partly based on the market belief that the ECB will have to engage in more unconventional monetary measures, now that interest rates are close to zero. There is still stiff German resistance to any such policy and 
the euro zone economy may have to weaken further before anything actually happens.

But one phrase from the bubble can legitimately be applied to the present situation. If something cannot go on forever, it will probably stop. Another, much derided, phrase may now have relevance. This time it really is different. We have not been here before.

The longer it goes on, the more difficult a return to normality will be. Creditworthy governments have the happy option of borrowing at very cheap 30-year rates. Ten years is as far as Ireland can go. When they expire, those loans may well have to be replaced at much higher cost. The government and NTMA will have to think very carefully about what is the best thing to do with the cheap, long-term EU loans and the expensive IMF ones.

The rest of us just better be careful about our debt. De-leveraging may not be good for the economy but, like charity, patriotism starts at home.

Brendan Keenan

Indo Business

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