The cost of reckless lending
In the United States sub-prime lending enabled borrowers with poor credit records to secure home loans that many could not repay, and who subsequently defaulted. This helped to precipitate the global financial crisis in 2008, and the economic recession that followed. In America, as in Ireland, reckless lending inflated a property bubble that burst, leaving a legacy of toxic debt that has greatly depressed economic activity. In Ireland, fortunately, high risk sub-prime lending played a much smaller role in inflating property prices than elsewhere, most notably the US. Nevertheless, its negative impact can be measured in the high level of loan defaults that have occurred in that sector.
This week, the Minister of Finance, Michael Noonan, in replying to parliamentary questions from Michael McGrath, Fianna Fail’s spokesman on finance, provided the details. Half of all the sub-prime loans that were made to borrowers – some 3.3 billion – remain in arrears. The figures show a default rate, where borrowers are more than three months behind on loan repayments, over three times higher in the sub-prime sector than among the traditional lenders, banks and building societies. There, 18 per cent of those with residential mortgages remain three months or more in arrears, according to a recent estimate by credit ratings agency Fitch. Perhaps the only consolation is that sub-prime lending came to Ireland quite late in the property cycle, which has limited its damaging impact.
The figures illustrate the all too familiar features of a classic property bubble: where reckless lending is matched by reckless borrowing, and where credit excess is unchecked by a wholly inadequate system of financial oversight and regulation. High risk lending produced no high rewards for the sub-prime lenders, which have incurred huge losses. Equally, it has left sub-prime borrowers with a debt burden that for many is proving unsustainable.
Against that background, the rise in national residential property prices, increasing by 6.4 per cent in the year to December, marks a bottoming out of the property market, after a drop of over 50 per cent since the peak. Prices in Dublin have in that period risen by 15.7 per cent, raising some concerns that a new property bubble may be forming. This is unlikely. Prices in the capital are still 49 per cent below their highest level achieved in 2007.
And activity in the housing market has been limited in scope, and confined largely to cash buyers who have helped to put a floor under the market. This week, Fitch forecast modest single-digit growth in domestic property prices this year. Banks remain constrained in what they can lend. And no doubt scarred by the experience of having helped to create one property bubble, banks are now anxious to show that they have learned from their costly mistakes.