Debt forgiveness is inevitable, accept it.

With his €6bn mortgage debt forgiveness price tag, Morgan Kelly has once again lobbed a hand-grenade onto the refusniks’ patch. Refusniks are those who for the past three years, in denying the scale of the consumer debt crisis, have refused to accept the inevitability of debt forgiveness.

The refusniks’ “deny, pray and wait” strategy was solely designed to temporarily protect banks’ balance sheets from home mortgage losses. As consumer mortgage indebtedness predictably worsened, their classic kick-the-can forbearance response has been about as useful as a foot pump on the Titanic. A blind man with an abacus could reach the same conclusion as Kelly whose debt forgiveness estimate is probably a tad optimistic.

When first reported on in Sept 2009, there were 26,000 seriously troubled housing loans, totalling €4.8bn. By March this year these had grown to 50,000 totalling €9.6bn, of which 26,000 amounting to €4bn had already been restructured. On top of these are another 36,000 “performing” restructured loans of €6bn. Close to 90,000 mortgage loans of €15.6bn are extremely fragile. On average their homeowner borrowers are about €95,000 in negative equity which is by definition unsecured consumer lending. If repossessed, homes bought at peak values with maximum mortgages would result in average bank losses of close to €150,000 per loan.

When extrapolated out to all mortgage lenders, the central bank’s recapitalisation loss estimate scenarios for AIB, Bank of Ireland, EBS and Permanent TSB’s €75bn in housing loans, results in losses of between €5.5bn and €8.8bn over three years. Blackrock’s lifetime loan loss estimates, when extrapolated, yield losses of between €8.9bn and €15.8bn. So the glass half-full version of €5.5bn in losses is close to Professor Kelly’s estimate. The half-empty version could result in losses of €15.8bn.

Will banks recover such vast sums from hopelessly insolvent homeowners? They would need a fairy godmother to magic away significant debt write-offs. With no fairy godmother in sight what do these figures mean? They mean anything between 55,000 and 106,000 mortgage defaults. That’s a whole lot of houses to be repossessed and sold off. Clearing the mountain of troubled mortgages could take upwards of 60,000 repossessions over a three year period. But there are already 250,000 vacant housing units - enough to supply the housing market for some years to come. That is if anyone can raise the money to buy them.

The mortgage provider market so necessary to fund housing transactions is also broken and barring some divine intervention will be broken for some time to some.

In Q3 2006 banks made 24,000 housing loans totalling €5.5bn. Last quarter they made just 2500 loans totalling €488m. With house values already at 2001 levels and still heading south, hopelessly indebted consumer’s negative equity and by extension bank losses continue to worsen.

Billions in mortgage debt will have to be written off as irrecoverable, which of course means debt forgiveness. Kelly’s figure excludes unsecured consumer debt. The central bank has pencilled in €2.2bn in unsecured consumer loan losses which extrapolated out to the full market and including credit unions could add another €4bn or so. All told the household debt forgiveness price tag conservatively amounts to close to €10bn.

So what’s the answer? Well for many it’s an organised system through which money already given to the banks by the taxpayer is focussed on writing down consumer debt and this means an organised national debt forgiveness programme.

Let’s be clear about one thing – no one is talking about a free lunch except the dwindling band of refusniks and some boom-time cheerleaders who continue to talk about moral hazard and accuse Kelly and others of scare-mongering.

Yes, many people are angered at any suggestion of forgiving their profligate neighbour’s debts. But anger is not social or economic policy. Are we not equally angered at funding NAMA’s debt forgiveness programme or promising to repay in full bondholders’ profligate lending to Irish banks?

While we may not all have partied, most of us did enjoy the economic benefits of boom-time credit fuelled consumerism. It has come with a price tag that includes forgiving billions in neighbours’ debts. What is more, the money to do this is already sitting on the banks’ balance sheets having been provided by this state and its taxpayers.   

While Kelly’s figure may be a tad optimistic, he is absolutely right on one thing. The inevitable outcome of a property bubble is debt forgiveness. And for that to happen the Government needs to design and implement an open, transparent, equitable debt forgiveness programme, one that does not rely on one-to-one behind closed door arrangements between powerful bankers and their vulnerable customers. It also has to introduce a proper personal insolvency and bankruptcy regime, one that allows people to pay what they can and have the balance owing written off.

A version of this article appeared in the Irish Examiner, Business Section, Monday 22^nd August 2011