Friday, February 04, 2005

Why the housing boom could collapse like a ton of bricks

By Ryle Dwyer, The Irish Examiner
THE Celtic Tiger is again thriving and one would think it is unpatriotic to suggest that, like all tigers, it will die one day and we should have the foresight to be prepared.

The threat posed by the spiralling cost of housing is patently obvious, yet it is being largely ignored, even though it threatens the social, financial and political fabric of our society.

We don't enjoy our current prosperity because we have achieved the kind of self-sufficient Ireland that Arthur Griffith dreamed about when establishing Sinn Féin around a century ago. We enjoy it because we have integrated into the global market and have been able to exploit some particularly favourable conditions. In the early 1990s many international economists predicted the greatest global boom in economic history because the baby-boom generation that was born after World War II would be reaching the height of their earning power.

Their children would be finished university and earning for themselves, and many of what should have been the older generation, who traditionally acted as an economic drain on society, would not be there because millions had been wiped out in World War II.

As the result the baby-boomers would have more disposable income than at any time in their lives. They would be looking towards retirement and anxious to invest their money for it. Perceptive economists predicted this would drive up the stock markets to unprecedented heights but, of course, it was also likely to breed a kind of speculation not witnessed since the Roaring Twenties. Those same economists also warned that by 2012 the baby-boomers would be retiring and no longer investing new money, but drawing on their investments and savings.

Could the post-babyboom generation replace them in fuelling the same kind of boom as they planned for their own retirement? The economists who predicted the greatest boom also predicted it would be followed by the greatest burst. We ignore their warnings at our peril. A growing part of our current boom is generated by property speculation. Massive cranes grace the skylines of our urban centres the proof of our current economic health. We are enjoying unprecedented prosperity. Forced emigration is just an old nightmare, as we are actually trying to attract workers to this country. Now ordinary Irish people own two and three houses because they think they can't lose on property. It may not always go up in price but, at worst, it stays static. When was the last time property prices actually dropped in Ireland? The speculation has forced prices up for people who merely wish to purchase their own home.

They are being compelled to mortgage their futures for 30 years, and even longer. Control of this fundamental aspect of life has been handed over by politicians to the property speculators. In April 1999 Maurice O'Connell, governor of the Central Bank, warned that house prices had become so artificially high the inflated prices could overheat our economy. There was a danger of the dreaded negative equity situation witnessed in Britain and the US during the 1980s, or in Japan throughout the 1990s. At the height of the London boom in the '80s, a typical urban house in Britain cost 18.6 times average disposable income.

Lending institutions were prepared to loan the full purchase price, but then the market turned sour. Many homeowners found themselves with negative equity in that they actually owed the lending institutions more on their homes than the property was then worth on the market. The dangers of allowing prices to spiral have been most apparent in Japan where homes cost a staggering 67.4 times annual income in the late 1980s.

The normal working life is around 50 years, so it stood to reason that people who paid so much money for their homes could not pay off that debt in their lifetime. The inflated prices were propped up by institutions investing in property, but those investments were grossly overvalued.

HENCE there was a massive crash in home prices and a frightening number of institutions were forced into liquidation.

By the end of 2000 the economist Peter Bacon predicted that prices had peaked here and would fall by as much as 10% to 15% in the following months. He was the author of three special reports on the housing situation. The Government commissioned him to recommend ways of bringing down house prices without precipitating a collapse. He suggested a number of initiatives, but they did little to stem the price spiral.

House prices continued to soar up by 13.2% in 2002 and by 13.3% in 2003.

Last year there was a drop in the rate of increase, but it was still 8.6%, which was well ahead of inflation, and the rise this year is expected to be in the region of 5% to 7%, both ahead of projected inflation. The average price of a three-bedroom house here is already €248,989, which compares with €71,837 for a similar house in December 1996. In 1986, Japanese interest rates were cut four times until they reached 3%.

In the three decades since 1960 property prices had increased by a multiple of 50 in Japan. Credit and debt rocketed. Billions were lent to people to buy property, so prices spiralled. The richest 20% saw their wealth quadruple during the boom, but then on Christmas Day 1989 the finance minister announced a rise in interest rates. Within four days the stock market began to fall. By March it had lost a quarter of its value. By September 1992 stocks were down by 65%. House prices held up at first, but by 1992 they had fallen by 60%. In the next eight years they dropped another 20% with consequences for the whole nation.

A great many corporations went bankrupt and pension funds evaporated because those funds had invested in overrated property.

Here at home, Charlie Haughey purchased his mansion with 240 acres in Kinsealy for £144,997 in 1969 and he sold 17.5 of those acres in 1973 for £140,000. He sold the remainder a couple of years ago for a reputed €45 million. That amounted to a multiple of more that 240 times the original price without even counting what he sold off.

In fact, he got €45 million for what effectively cost him around £5,000 30 years earlier. Of course, Charlie's mansion and his dealings were anything but typical. Relative to their income people are not yet paying anything like what the Japanese paid for property in the 1980s, but house prices here have gone up by more than a multiple of 50 in the last 30 years.

If the three-bedroom house in which I live is worth the national average, this would represent an increase of a multiple of more than 90 of what it cost 30 years ago. Is anyone so foolish as to think that what happened in Japan couldn't happen here?