Greatest Bubble in History in Developed World: The Economist magazine said in June 2005, that never before had real house prices risen so fast, for so long, in so many countries. It asked: What if the housing boom now turns to bust? In Ireland, vacant housing units rose from 140,000 in 2002 to 230,000 in 2005 according to Davy Stockbrokers, 266,000 according to the April 2006 Census and an estimated 350,000 today, according to the Property Pin online forum.
Davy Stockbrokers said in 2005, that over 40% of houses built in Ireland in the previous two years were lying vacant as second homes, holiday homes or unlet investment properties.
The Economist said in 2005 that rising property prices helped to prop up the world economy after the stockmarket bubble burst in 2000 and it estimated that the total value of residential property in developed economies rose by more than $30 trillion over the previous five years, to over $70 trillion, an increase equivalent to 100% of those countries' combined GDPs. The surge not only dwarfed any previous house-price boom, it was larger than the global stockmarket bubble in the late 1990s (an increase over five years of 80% of GDP) or America's stockmarket bubble in the late 1920s (55% of GDP). The Economist said that the rise looked like the biggest bubble in history.
The Bubble in US
The Economist said thattheUShousing market had played such a big role in propping up America's economy that a sharp slowdown in house prices would likely have severe consequences. Over the four years to 2005, consumer spending and residential construction had together accounted for 90% of the total growth in GDP. And over two-fifths of all private-sector jobs created since 2001 had been in housing-related sectors, such as construction, real estate and mortgage broking.
A US National Association of Realtors (NAR - - America's industry body for estate agents) study found that 23% of all American houses bought in 2004 were for investment, not owner-occupation. Another 13% were bought as second homes. The Economist said that investors were prepared to buy houses they would rent out at a loss, just because they expected prices would keep rising—the very definition of a financial bubble. “Flippers” bought and sold new properties even before they were built in the hope of a large gain. In Miami, as many as half of the original buyers resold new apartments in this way. Many properties changed hands two or three times before somebody finally moved in.
The NAR said that 42% of all first-time buyers and 25% of all buyers made no down-payment on their home purchase in 2004. In the Washington area, more than a third of homebuyers were using interest-only loans, up from about 2% just five years before. Indeed, homebuyers were able to get 105% loans to cover buying costs. And, increasingly, little or no documentation of a borrower's assets, employment and income was required for a loan.
In California, over 60% of all new mortgages in 2005 were interest-only or negative-amortisation, up from 8% in 2002. The national figure was one-third. The new loans were essentially a gamble that prices would continue to rise rapidly, allowing the borrower to sell the home at a profit or refinance before any principal has to be repaid.
If America's largest banks were to become the nation’s largest real estate brokers, homebuyers would be much more likely to take out high risk interest-only loans, the National Association of Realtors testified at June 2005 Congressional hearings called by US Rep. Mike Oxley (R-Ohio), an advocate of allowing banks into real estate.
Also in June 2005, the Federal Reserve Chairman Alan Greenspan expressed concern that the growing use of riskier new mortgages was helping push up home prices to “unsustainable levels” in some local markets. He stated that, “The dramatic increases in the prevalence of interest-only loans, as well as the introduction of other relatively exotic forms of adjustable-rate mortgages, are developments of particular concern.”
National average American house prices had never fallen for a full year since the Great Depression.
Greenspan, while acknowledging local bubbles, dismissed the idea of a national housing bubble that could harm the whole economy if it burst. He had argued in the 1990's that because it is impossible to identify bubbles at the time and interest rates are an imprecise instrument, it is safer to let bubbles burst of their own accord and then ease policy to support the economy.
That stance is now being reviewed by the Federal Reserve.
Contrary to conventional wisdom, real US house prices do not always rise strongly in the long term.
In the UK, house prices fell in the early 1990s, it took at least a decade before they returned to their previous peak, after adjusting for inflation.
Stephen S. Roach, Chairman of Morgan Stanley Asiasaid last August that over the past two decades, America has had an audacious shift from income- to asset-based saving. The US consumer led the charge, with trend growth in real consumer demand hitting 3.5% per annum in real terms over the 14-year interval, 1994 to 2007 – the greatest buying binge over such a protracted period for any economy in modern history. Real disposable personal income growth averaged just 3.2% over the same period.
The binge was financed through equity release loans on homes and consumption rose to a record 72% of real GDP in 2007. It was "manna from heaven" for Developing Asia, but with the US consumer in trouble, Roach says Asia's export-led growth dynamic, may now be at risk.
Irish Housing Bubble
The Economist Survey of Ireland in 2004, said that Ireland was not the only country to have experienced a housing bubble. But it warned that it could be peculiarly vulnerable, because as a member of the euro area it could not raise interest rates in order to prick the bubble. Moreover, in the previous decade or so property and construction have become unduly dominant in the economy. In 2004, Ireland was on course to build almost 80,000 new houses. Britain, which had 15 times as many people, built only twice as many. Employment in construction had almost doubled in the previous decade, and the sector accounted for some 15% of national income—over twice as much as in Britain.
It concluded that a potential property crash was the most threatening problem on the horizon for the country.
This property threat also meant that the Irish banking system was heavily exposed and a property crash would badly hit the balance sheets of the two big Irish banks, AIB and Bank of Ireland.
In Ireland, the property boom powered job creation while jobs in the key exporting goods and services sectors stagnated.
Direct employment in construction rose from 126,000 in early 1998 to 282,000 in December 2006.
The Irish Housebuilders Association said in October 2006 that the Government tax take from new homes building industry was expected to reach €9.5bn in that year - or more than €105,500 per house for each of the 90,000 new homes that would be built.
The money was spent as if the flow would never slow and instead of serious reform, two joke schemes were devised befitting a banana republic - - benchmarking involving kindergarten type aspirations and special payments averaging 9% for the politicians themselves, other public sector staff and every former civil servant. The second was the modern equivalent of the Lucky Bag, called decentralisation. Ministers had the pick of Departments and State agencies for their constituencies.
Demographics was the mantra of the boosters of the property industry and it gave sustenance to the political elite who through hubris and short-term self-interest, promoted the fantasy that the free lunch had been invented.
As Finfacts has previously observed, Africa would be very wealthy if demographics in itself, was thesine qua nonof sustained economic growth.
The number of migrants in the country was uncertain but the CSO reported in a Census 2006 analysis of the rate of owner occupancy in households headed by Polish-born persons, who were usually resident in Ireland at the time of the 2006 census, was 4.9% compared with nearly 80% for those headed by Irish-born persons and 71.3% for those headed by persons born in Britain.
About three out of four households in which the head was born in Poland or Lithuania were private rented dwellings. The corresponding figures for African- and Asian-headed households were 56.3% and 49.6%, respectively.
As with migrants everywhere, the numbers per rented dwelling was likely high.
So while the boosters highlighted migration and its impact on housing demand, they were silent on the message from the upward trend in vacant dwellings. The CSO also said in theanalysis of Census 2006,that there were 266,000 vacant dwellings in 2006 representing 15% of the total housing stock. Of these, 175,000 were houses, 42,000 were flats and 50,000 were classified as holiday homes. County Leitrim had the highest percentage of vacant dwellings (29.3%) while 11.7% of dwellings in Dublin City were vacant at the time of the census. There were 140,000 vacant housing units according to Census 2002. Goodbody Stockbrokers said last month that since April 2006, there have been some 148,000 housing units completed in Ireland, but only 86,500 mortgages were paid out for the purposes of purchasing a new home. While some of these homes would have been bought without the use of a mortgage, it is clear that there has been a significant increase in the inventory of new homes over the past two years. TheProperty Pin says that there are 350,000 vacant houses today - - 17.6% of the overall housing stock. 1. 35,000 unsold new homes as claimed by the Construction Industry Federation. Private Rented Furnished and Unfurnished 145,000 Homes, Official housing/property sector statistics are not comprehensive and the power of developers and farmers in the political system, is likely a factor - - See: Irish Farmers and Sacred Cows The CSO publishes data on agricultural land sales but ignores development land sales, which are a big factor in the value of property - - the rezoning price premium is effectively a huge tax that benefits farmers.
So while the boosters highlighted migration and its impact on housing demand, they were silent on the message from the upward trend in vacant dwellings.
The CSO also said in theanalysis of Census 2006,that there were 266,000 vacant dwellings in 2006 representing 15% of the total housing stock.
Of these, 175,000 were houses, 42,000 were flats and 50,000 were classified as holiday homes. County Leitrim had the highest percentage of vacant dwellings (29.3%) while 11.7% of dwellings in Dublin City were vacant at the time of the census.
There were 140,000 vacant housing units according to Census 2002.
Goodbody Stockbrokers said last month that since April 2006, there have been some 148,000 housing units completed in Ireland, but only 86,500 mortgages were paid out for the purposes of purchasing a new home.
While some of these homes would have been bought without the use of a mortgage, it is clear that there has been a significant increase in the inventory of new homes over the past two years.
TheProperty Pin says that there are 350,000 vacant houses today - - 17.6% of the overall housing stock.
1. 35,000 unsold new homes as claimed by the Construction Industry Federation.
Private Rented Furnished and Unfurnished 145,000 Homes,
Official housing/property sector statistics are not comprehensive and the power of developers and farmers in the political system, is likely a factor - - See: Irish Farmers and Sacred Cows
The CSO publishes data on agricultural land sales but ignores development land sales, which are a big factor in the value of property - - the rezoning price premium is effectively a huge tax that benefits farmers.
The CSO receives raw data from the Valuation Office but it does not publish transactions outside the range €500 per hectare (€202 per acre) to €35,000 per hectare (€14,164 per acre) on the basis that the purchaser may intend to use the land for non-agricultural purposes or that a non-market (family, relatives, etc.) element may be involved in the transaction. Transactions in Dublin are excluded because of uncertainty about whether the land would continue to be used for agricultural purposes. Similarly transactions under 2 hectares are excluded.
In 1998, the Government cut capital gains tax from 40% to 20% and together with property incentives that frontloaded income tax reliefs for high earners, it made investment in property by earners on the top rate of income tax of over 40% an apparent no-brainer in a rising market.
The rise in vacant properties from 2002, shows that investors who did not want to have the initial cost of furnishing and hassle of renting, as they awaited the value of the property to rocket, have been left with properties that they can only get rid of now at a big loss. Many such investors are faced with making bigger repayments on loans as five-year interest only periods expire.
In mid-2005, annual credit growth in the Eurozone was just over 7% while in Ireland it was heading for 30%.
Trinity College economist Patrick Honohan said in 2006 that Irish banks' borrowing from abroad to onlend to Irish residents soared from 10 to 41% of GDP between 2003 and 2005.
Ministers were sanguine about the housing boom and the Central Bank said in its 2005 report: "The acceleration in house price inflation has increased the risk of an overvaluation in house prices and, as a consequence, has clearly increased the probability of a sharp correction," but like Greenspan, it was a bark without a bite.
The windfalls from the boom went into more property while venture capital for Irish business was at the crumbs level by comparison.
Irish bank economists may now have a public reputation on a par with used car salesmen but that is unfair.
Two stand apart in taking the populist route and providing what could be termed the necessary "intellectual" underpinning for the out-of-control boom.
Economists at stockbrokers generally took a more sober approach, as they were not representing firms in the business of retail mortgages.
Economists at NCB Stockbrokers were however, among the cheerleaders and in 2006, Dermot O'Brien and Eunan King said:"Sustained strong growth in the labour supply will maintain a capacity for growth in Ireland that will far outstrip that in other EU countries where the demographic outlook is much less favourable" - - 2020 Vision -Ireland's Demographic Dividend
In March 2008, NCB said in a report, that the emphasis placed on the decline of the housing market misses the point about the overall health of the Irish economy but the reality was that the unbalanced economy was in a very fragile state.
According to the report, the Irish economy would grow by 3.5% in 2008, reflecting solid growth in consumption, exports and business investment.
Also in March 2008, the publicly-funded but independent Economic and Social Research Institute (ESRI) forecast that Ireland would have the first recession in 2008, since 1983.
In early 2001, ABN Amro Stockbrokers economist Dan McLaughlin published a report on the housing sector, Housing in Ireland: False Alarm. It was his last at the firm before moving to Bank of Ireland. McLaughlin argued that several forces at play would ensure strong double digit growth in house prices that year and a fall in the combined tax and mortgage cost burden in 2002 "implies that further double digit house price gains are likely next year."
In November 2002, a month before Budget 2003, with mortgage lending soaring to record levels and house completions also at a high, Dan McLaughlin warned against any intervention by the Government in the market and said any hike in capital gains tax from its reduced level of 20%, could result in less land being available for housing.
He naturally steered clear of any discussion of the taboo land development system, that makes land scare in a country that is 4% urbanised.
Mortgage lending soared by 37% during the second quarter of 2002 with a total of €2.7bn paid out to borrowers, according to Bank of Ireland's Irish Property Review.
Dan McLaughlin said a 10% house price rise was remarkable considering it took place in what will be a record year for house completions.
"The scale of house building in Ireland is astonishing. Our housing stock is currently rising by some 4% per annum, compared with approximately 0.8% in Britain,"he said.
He added the supply picture is testimony to the efficiency of the market.
Tom Parlon, Minister of State at the Department of Finance with responsibility for the Office of Public Works in 2003 and now head of the Construction Industry Federation , officially opened the National Construction Conference in October 2003 and delivered an upbeat address and stated that "this is probably the most exciting period in the history of Irish construction. Never before have we had so much activity under way in the sector. Never before have we had so many major projects under construction. And never before have so many sectors been buzzing at the same time - residential, commercial and industrial and public infrastructure."
Dan McLaughlin, agreed with the Minister and described the construction industry as facing into a "Golden Age."
The conference heard that the sector was in a golden age in terms of output, employment, wage rates and profits. Employment in construction in Ireland topped 190,000 in May of 2003, the highest on record - up from 126,100 in 1998 and within three years, employment would top 280,000.
McLaughlin said "the boom in residential housing is a key factor driving construction. The scale of the increase in the Irish housing stock is unprecedented in the western world; some 60,000 housing units will be completed in 2003, for a population of 3.9million, against 175,000 in the UK, where the population is 59m."
In February 2004, The Sunday Independent reported that Dan McLaughlin was the toast of the Society of Chartered Surveyors annual dinner at the Burlington Hotel that appears to have resembled an Elmer Gantry revivalist meeting: In a virtuoso performance, he declared that this country is currently enjoying an unprecedented "Golden Age of Construction" and - to thunderous applause - announced that "the Celtic Tiger is Back".
In October 2004, Brain Cowen became Finance Minister and one bank economist described the bubbling housing market as worrying.
"If the trend continues over the next two months, Finance Minister Brian Cowen should consider measures to slow down the market in the December Budget," said Pat McArdle, Chief Economist at Ulster Bank.
"We have to question why we have generous tax breaks for a market like this," McArdle said. "It is important that the Budget does not exacerbate house-price inflation."
Dan McLaughlin said the refusal of prices to ease closer to economic growth rates was a puzzle.
"It looks like our estimates of the demand for houses is too low. The consensus about population growth and the impact of immigration appears to be wrong," he said.
In July 2005, McLaughlin again said the supply of new housing, relative to the scale of the Irish population, "is unprecedented in the western world."
On the level of debt in the economy, McLaughlin said Bank of Ireland's experience gives no cause for concern and the records show that there are far more savers than borrowers in this country.
"At the end of 2004, household bank deposits stood at €53bn, equivalent to over 70% of outstanding mortgage debt," he said.
Goodbody Stockbrokers economist Dermot O'Leary said last month that the current Loan-to-Deposit ratio stands at 220% (for loans and deposits of Irish residents), up from 146% at the end of 2003.
O'Leary said that outstanding debt levels in Ireland (adjusting for issues in relation to the Irish Financial Services Centre (IFSC) and the proper measure of output in the Irish economy (GNP rather than GDP)) will amount to c.200% of GNP by the end of 2008.
Within this, debt levels in the household sector have risen substantially. At the end of 2007, household debt levels reached 176% of disposable income, up from 48% in 1995. From a relatively low level of debt in 1995, Irish household debt levels are now among the highest in the world. Goodbody had stated in 2005 that “the accumulation of debt puts Irish households in a more vulnerable position should a shock come about in terms of employment or interest rates”. It now says this vulnerability is set to be put to the test over the coming two years.
In May 2007, Dan McLaughlin told a housebuilders conference in Dublin, that one often hears that growth is unbalanced but a glance at the data from 2001 to 2006 shows average GDP growth of 5.3%, with all components growing in a 4.5% - 5.5% range - - but he should have looked beyond the cheerful figures. The Reality Check was that an economy powered by construction and American firms who were responsible for 90% of Ireland's exports, was exceptionally vulnerable to a US downturn.
McLaughlin said others complain that too many resources are being devoted to consumption but consumer spending in Ireland amounts to 46% of GDP which is not only below the eurozone norm (55%) but has fallen steadily for the past forty years. Household savings in Ireland is also relatively high (at around 10% of household disposable income), which is similar to Germany and substantially above the UK (5%) and the US (zero). This also means that many people benefit from a rising rate environment but this view is also rarely heard.
IIB Bank was rebranded this week as KBC Ireland and its Irish economist Austin Hughes, who was also an unabashed cheerleader of the property boom, may well be in need of a rebranding too!
"From both a political and economic standpoint, the key task facing Minister Cowen is to frame a December Budget that doesn't disappoint households while avoiding excesses that might require a tougher Budget 12 months later," Hughes said before Brian Cowen's first budget in December 2004.
In September 2005, the Irish Independent reported that buoyant tax revenues and the so-called "Hobbs factor" (a reference to a series of TV programmes on what was termed Rip-off Ireland) could force the Government to introduce fresh tax cuts in the upcoming Budget, a "leading" economist claimed.
Austin Hughes said it might be politically expedient to use the buoyant revenues to give taxpayers a break.
This was just months before the high point of the boom in 2006.
According to Hughes, even on fairly cautious assumptions, it appeared that the maturity of the State-supported SSIA savings scheme, could boost the demand for housing in Ireland by around 16,000 units in forthcoming years.
He also said the influx of migrant workers and low interest rates would continue to support the Irish property market.
Hughes wanted more tax fuel on the raging boom, despite current spending growing at annual average rates of 15% since 1997 and like McLaughlin, he was wittingly or unwittingly blind to what should have been a self-evident truth, that the house of cards was built on a foundation of quicksand.
In 2005, the International Monetary Fund produced a paper on how house-price busts can hurt economies.
Analysing house prices in 14 countries during 1970-2001, it identified 20 examples of “busts”, when real prices fell by almost 30% on average (the fall in nominal prices was smaller). All but one of those housing busts led to a recession, with GDP after three years falling to an average of 8% below its previous growth trend. America was the only country to avoid a boom and bust during that period.
Now it has joined Ireland in the club.
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