Without the correct response, the crisis could inhibit economic recovery and prevent far too many people from becoming productive members of society, writes Bill Hobbs
JUST when is Government going to respond to the consumer debt crisis? Its mandatory stay on home repossessions is a stop gap, principally designed to temporarily protect banks rather than provide appropriate solutions for people who can no longer afford to make their loan repayments.
Debt forbearance, moratoriums on house repossessions and regulatory codes of conduct simply don’t cut the mustard.
Ireland’s consumer debt crisis will worsen this year as people’s disposable income shrinks further. And the crisis may reach a tipping point beyond which it could spiral out of control.
Household financial vulnerability and unaffordable indebtedness is causing serious distress for tens of thousands of people who are struggling to make repayments on their mortgages and other loans.
How big is the problem? No one knows as no one Minister, Government department or state agency is responsible for understanding what’s going on and figuring out how to deal with it.
So what do we know of ? With over €147bn in mortgage borrowings and €34bn in other borrowings, Irish consumers are the most indebted in Europe and reported as being the most financially vulnerable. (These figures exclude small business owner’s personal liability for billions in business borrowings.)
Hundreds of thousands of people borrowed to buy overpriced houses at high loan to value ratios, far too many at 100% and many others topped up mortgages using unsecured loans. The most indebted cohort is those under 40, married, with young children.
Ratings agency Moody has highlighted rising loan defaults on banks securitised mortgages. Last October an ESRI paper estimated that should property values fall by 40% from 2007 levels, upwards of 196,000 mortgage holders would owe more than their house was worth – including some 125,000 first timers. And should values drop by 50% this figure would rise to about 350,000.
The consensus is house values have already breached the 40% level and are still heading south. On top of this there are some 250,000 empty domestic dwellings looking for a buyer or renter at a time when bankers are rationing loans and people are too frightened to borrow.
It’s likely that by year end over half of Ireland’s 645,000 mortgage holders will owe more than their property is worth – be living in negative equity.
However, on its own, negative equity doesn’t cause a consumer debt crisis to occur. While a recognised trigger, two other things have to happen. There must be a decline in household incomes and a rise in unemployment. We are of course experiencing extremes of both. Household incomes have permanently fallen by at least 10%. Unemployment is close to 430,000 and only stabilising at this level as people emigrate.
Worse is to come, as state aided banks, the main mortgage lenders, will follow foreign owned banks and increase mortgage rates by upwards of 1% and the ECB may increase rates later this year by another half percent. The effect of a 1.5% increase on average dual income take home pay amounts to a reduction of at least 8.5% in disposable income. For many it means their loan repayments have or will become unaffordable. As income declines, any increase in interest rates dramatically effects loan repayment affordability notwithstanding the reduction in living costs as some consumer retail prices drop.
It is widely understood this dangerous combination of high loan to value mortgages sliding into negative equity, declining real incomes and joblessness causes consumer debt defaults to rise to crisis levels.
Furthermore negative equity means people feel poorer, stop spending, pay down their debts and save more. There are many studies of the enormous economic, social and psychological costs to society and individuals of indebtedness. Yet the scale of the consumer debt crisis remains hidden from view.
Banks are known to under provide for their consumer bad loans. One reason is they have paid less attention to measuring risk on consumer loans than their larger business loans. And while they may account for troubled consumer loans, they do not account for good loans yet to go bad. Still, even the banks published accounts provide a glimpse of the crisis.
Loan loss provisions on housing loans (both home and buy to let properties) have risen by over 300% since 2008. Loan defaults on largely unsecured personal loans are also rising, with for example credit unions reporting large increases in bad debt provisions.
It’s known that mortgage arrears lag personal loan arrears as people prioritise their mortgage repayments. Any increase in mortgage arrears is indicative of serious problems with other loans. The courts are seeing increasing debt collection and repossession activity with unsecured debt judgments escalating.
MABS, the tax payer funded debt advisory service for financially excluded, low income people has been inundated as banks refer their indebted customers to its offices. Some observers maintain this behaviour by banks smacks of a shirking of responsibility to fund the costs of responding to a consumer debt crisis they caused through their own reckless lending practices. They say the cost of funding debt advisory services should be borne by those who lent and borrowed money and not the tax payer.
And this is a key issue. Who should pay for what will have to be a comprehensive effective debt repayment and debt forgiveness programme for people who, through no fault of their own, are no longer able to repay their debts in full? Who should be responsible for designing, implementing and overseeing a national consumer debt relief programme including a just and equitable non-court based personal insolvency system? Ordinary people owe more than €180bn and many can no longer afford to repay their loans in full.
There is an urgent need for Government to wake up and respond to the consumer debt crisis, to identify its scale, to identify the solutions and to implement these solutions. Without a co-ordinated response the consumer debt crisis will inhibit economic recovery and prevent far too many people from becoming productive members of society for years to come.
This article appeared in the Irish Examiner, Business Section, Monday 25th January 2010
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