News Comment

Saturday 23 August 2014

Property bubble? There's none. We are too laden with debt to have one

What's happening is more likely early-stage recovery from the PTSD associated with the implosion of middle-class wealth, writes Eddie Hobbs

Eddie Hobbs

Published 06/07/2014 | 02:30

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Needed: A steady market where house prices don't ever run away again from wage growth.

London's residential property prices, now averaging £400,000, are up nearly 26pc over the past year - that's 30pc above their 2007 levels compared to national price rises of nearly 12pc, prompting the Bank of England to restrict banks from forking out more than 15pc of new loans to those borrowing over 4.5 times income. But just because Dublin prices have advanced at a similar rate to London over the past year doesn't make this a bubble. What's happening is more likely early-stage recovery from the Post-Traumatic Stress Disorder (PTSD) associated with the implosion of middle class wealth.

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Back in the day you could rely on economist Hyman Minsky's narrative on the behaviour of bubbles to overlay on to the Irish property market, although written decades before, it proved uncannily accurate in the run up to Ireland's property implosion.

First, there's a positive rumble in an out-of-favour asset class. The old hands make some loot, causing the Great Eye, the credit market, to sit up and take notice. Ever eager to make a buck for themselves, banks decide to support the sector with some extra credit. Prices rise higher. Mavericks next arrive in ever increasing numbers, attracted by the lift, the credit and the easy killing. More credit is pumped in. Prices rise further. It becomes a self-fulfilling prophesy as bigger numbers chasing smaller supply bid up prices to speculative levels beyond fundamental values.

The word goes out, you can't lose and you're a fool not to dip your snout in the trough. Contrarian voices sound caution but, like standing between a water hole and a herd of buffalo with a sign saying 'water poisoned', the prophets are trampled in the stampede.

Next the old hands, spooked by speculative prices, refuse to add further to their positions and instead start quietly selling, hoping to tip-toe out. That's when the cynical soft landing yarn is spun; expect prices to come down but only temporarily before the next surge. It doesn't help clarity when the biggest beneficiary is the Government and when parts of the media, like the Irish Times, fork out over €50m for online property advertiser myhome.ie precisely at the peak year by which time debt is now being issued to service existing debt, there's no cash down required and sloppiness replaces diligence, speed, caution.

Next, prices start falling as expected, but it doesn't stop, breaching the soft-landing threshold. Banks lose their nerve and pull credit. Prices fall faster. Panic sets in, everyone rushes to the door.

Now call me picky, but overlaying the Minsky narrative on what's happening to parts of Irish residential property like Dublin (and Cork shortly), and it supports the simple spelling lesson - there is no 'F' in Bubble. During the week Ronan Lyons, a forensic property economist with Daft.ie arrived at the same conclusion by granular research of data; house prices fell by between 10pc and 15pc each year for nearly four straight years to 2012 with Dublin prices double dipping, hitting a fresh floor in quarter three, 2009 and again in 2011 before a sustained rise. But so far, other than in urban pockets, prices are barely moving at all. That will change because sentiment is shifting according to Daft.ie surveys as more people now expect prices to rise. Meanwhile, the stock of houses available has been falling while activity has been gently rising.

Lyons, by compressing his analysis into five-year time periods, shows how much credit first 
began to play a role from 1995 but completely swamped the market as the key driver of rising prices from 2001 to 2007, replacing the so-called 'fundamentals' like the level of income per household, the number of people per household and the amount of housing stock available per household. These had determined prices since the Seventies, but after 2001 credit drove them.

Is it different now? Well, since there's no 'F' in credit either, the only thing left to influence tight parts of the market is a supply-and-demand mismatch. Lyons' baseline scenario for the five years from 2012 to 2017 is for national prices to have risen on average by 29pc, pushing to 55pc in a higher growth scenario or as low as 9pc in a low growth one, but caution is required - there's lots of moving parts underneath these numbers and much depends on general economic health, not just in Ireland but the external forces to which we are exposed.

Let's remind ourselves that despite recent good economic news, Ireland is swamped in debt which households continue to pay down as fast as possible, rather than spend. The half a trillion in Irish household net worth works out to €110,000 per head, but debt stands at €36,000 per head, that's over three times the level Italians are servicing from their wages and over twice that of the Germans. When you consider four in 10 Irish households have no mortgage, you begin to grasp just how big and how concentrated the Irish private debt Alps are.

Add the national debt, now at over 120pc of GDP, to which households contribute in higher taxes, and the debt drag on the consumer economy still remains potentially lethal, especially when interest rates rise.

Quite how bubblephobics envisage an imminent burst in the absence of credit competition or growth and in the presence of massive deleveraging, where the market is purely driven by first-time buyers and cash investors, is a puzzle. The Irish Central Bank is in a position to dampen runaway credit by applying strict lending guidelines that squeeze loan sizes but hasn't yet seen the need to do so and the Government can cool fever by imposing capital gains tax on home sales if required, but right now the best policy response is to address supply side issues.

There's lots of ideas knocking about including urban retirement developments that might free up empty nests by attracting their older owners to downsize, freeing up stock in tight markets which, by hosting FDI, are quickest to benefit from economic recovery and competitive bidding on property. Any supply-side solutions will require the type of joined-up thinking between local councils, planners and central Government that has been notably absent.

We may get another hot market but it looks like it's years away, truncated in the meantime by the intervention of an external player sensing a killing, like Bank of Scotland did 14 years ago when it caught the moribund Irish banks and building societies napping, dining out on swollen margins in a rising market.

What we need is a steady market where house prices don't ever run away again from wage growth.

Sunday Independent

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