Central Bank of Ireland: Financial Stability Notes

The Central Bank of Ireland has today published its first Financial Stability Note. This new series will cover financial stability related topics including those relating to risks and vulnerabilities facing the Irish and European financial system.

 

The Note, ‘Macroprudential Measures and Irish Mortgage Lending: An Overview of 2017’, by Christina Kinghan, Paul Lyons and Elena Mazza, provides an overview of new residential mortgage lending in Ireland in 2017. It describes key loan and borrower characteristics of loans subject to the Central Bank’s Mortgage Measures along with a comparison to lending in 2016. The Note also provides details on loans with an allowance to exceed the loan-to-value (LTV) and loan-to-income (LTI) limits, as permitted under the Measures. 35, 472 new loans are examined, with a value of €7.4 billion.

 

The key findings of today’s Financial Stability Note are:

 

  • First-time-buyers (FTBs) in 2017 had an average LTV of 79.8% and an average LTI of 3 times gross income. This represents a marginal increase on the average LTV and LTI ratios reported in 2016. FTBs also had a larger loan size, property value and income compared to FTBs one year earlier (see Table 4).
  • The average loan size and property value of second and subsequent buyers (SSBs) also increased compared to 2016. The average LTV for SSBs in 2017 was 67.6% and the average LTI was 2.6 times gross income (see Table 5).
  • A higher proportion of loans for both FTBs and SSBs were originated on a fixed interest rate compared with one year earlier.
  • 17% of the aggregate value of SSB lending exceeded the SSB LTV limit.
  • 18% of new primary dwelling home (PDH) lending exceeded the 3.5 LTI cap. This corresponds to 25% of the value of FTB lending and 10% of the value of SSB lending. A larger share of LTI allowances was accounted for by FTBs (74%) relative to SSBs (26%).
  • Allowances to exceed the LTI and LTV caps were allocated to borrowers in all four quarters of 2017 (see Table 7).

IEA 2018 – Preliminary Programme

IEA 2018. May 10 and 11 at the Central Bank’s headquarters in North Wall Quay. Please note Early Bird registration is open until April 25.

DAY 1: THURDSAY MAY 10TH 2018

Registration: 8:30-9:00

Session 1: 9:00 to 10:30

1A          Public Economics (1)

·        Respect your elders: evidence from Ireland’s R&D tax credit reform (Rory Malone, UL)
·        Paying over the odds at the end of the fiscal year: Evidence from Ukraine (Margaryta Klymak, TCD)
·        The Direct and Spillover Effects of Taxation: Evidence from a Property Tax Break for First-Time Buyers (Enda Hargaden, Univ of Tennessee)
·        Follow the Leader? The Interaction between Public and Private Sector Wage Growth in the UK (Arno Hantzsche, NIESR)

 

1B          Financial Economics (1)

·        Positive Liquidity Spillovers from Sovereign Bond-Backed Securities (Peter Dunne, CBI)
·        A Multi-Century Perspective on Return Predictability and Price Bubbles (Don Bredin, UCD)
·        Regulatory Penalties and Reputational Risk: Evidence from Systematically Important Financial Institutions (Sharadha V Tilley, DIT)

·        Resolving a Non-Performing Loan crisis: the ongoing case of the Irish mortgage market (Fergal McCann, CBI)

 

1C          Economics of Health and Education

·        The Human Capital Cost of Radiation: Long-Term Evidence from outside the Womb (Benjamin Elsner, UCD)
·        School Tracking and Mental Health (Mika Haapanen, Univ of Jyväskylä)
·        Household Decision Making with Violence: Implications for Transfer Programs (Alejandra Ramos, TCD)
·        Heterogeneity in Early Life Investments: A Longitudinal Analysis of Children’s Time Use (Slawa Rokicki, UCD)

 

Coffee: 10:30 to 11:00

Session 2: 11:00 to 12:30

2A          Economic History (1)

·        Rise and Fall in the Third Reich: Social Mobility and Nazi Membership (Alan de Bromhead, QUB)
·        The Economic Geography of Late Industrialisation: Local Finance and the Cost of Distance in Imperial Russia (Marvin Suesse, TCD)
·        Perfect Mechanics: Artisan Skills and the Origins of the Industrial Revolution. (Morgan Kelly, UCD)
·        Economic Policy and the Common Good (Rowena Pecchenino, NUIM)

 

2B          Applied Micro (1)

·        Determinants of households’ switching demand and execution (Shane Byrne, CBI)
·        The Take-Up of Medical and GP Visit Cards in Ireland (Claire Keane, ESRI)
·        Dodging the deadweight death-spiral: Efficiency and equity implications of UK electricity tariff reform (Niall Farrell, Univ of Oxford)
·        The education, work and fertility decisions of women (Barra Roantree, IFS)

 

2C          Monetary Policy and Asset Pricing

·        Monetary Policy Shocks and Bank Lending: Evidence from the euro area and United States (David Byrne, CBI)
·        The political economy of reforms in central bank design: evidence from a new dataset (Davide Romelli, TCD)
·        Commodity pricing: Evidence from Rational and Behavioural Models (Don Bredin, UCD)

 

Lunch: 12:30 to 13:30

Session 3: 13:30-15:00

3A          Economic History (2)

·        Patent Costs and the Value of Invention: Explaining Patenting Behaviour between England, Ireland and Scotland, 1617-1852 (Stephen Billington, QUB)
·        The Impact of the Great Irish Famine on Irish Mass Migration to the USA at the turn of the twentieth century. (Gayane Vardanyan, TCD)
·        The impact of depression and deglobalization on agricultural outcomes: Insights from interwar Ireland (Tara Mitchell, TCD)
·        Poverty and Population in Pre-Famine Ireland (Alan Fernihough, QUB)

 

3B          Multinational Firms

·        America First? A US-centric view of global capital flows (Martin Schmitz, ECB)
·        Corporate Taxation and the Location Choice of Foreign Direct Investment in the EU Countries (Iulia Siedschlag, ESRI)
·        U.S. corporate income tax cuts: Spillovers to the Irish economy (Daragh Clancy, ESM)
·        The contribution of foreign companies to the business economy and corporate income tax base in Ireland (Seamus Coffey, UCC)

 

3C          Financial Economics (2)

·        Clearinghouse-Five: Determinants of voluntary clearing in European derivatives markets (Pawel Fiedor, CBI)
·        The Implications of Tail Dependency for Counterparty Credit Risk Pricing (Juan Carlos Arismendi Zambrano, NUIM)
·        Money Market Funds and Unconventional Monetary Policy (Jacopo Sorbo, CBI)
·        What ‘special purposes’ explain cross-border debt funding by banks? Evidence from Ireland (Eduardo Maqui, ECB)

 

Coffee: 15:00-15:30

Session 4: 15:30-16:45

4A          Macroeconomics of the Irish economy

·        Disentangling Credit Shocks in the Irish Mortgage Market (Michael O’Grady, CBI)
·        Inside the “Upside Down”: Estimating Ireland’s Output Gap (Eddie Casey, IFAC)
·        Modelling External Shocks in a Small Open Economy: The Case of Ireland (Graeme Walsh, CBI)

 

4B          Labour Economics (1)

·        Employment and Hours Impacts of the National Minimum Wage and National Living Wage in Northern Ireland (Duncan McVicar, QUB)
·        Estimating the Effect of an Increase in the Minimum Wage on Hours Worked and Employment in Ireland (Paul Redmond, ESRI)
·        Taxpayer Responsiveness and Statutory Incidence: Evidence from Irish Social Security Notches (Enda Hargaden, Univ of Tennessee)

 

4C          Measurement & Methods

·        Macro and Micro Estimates of Irish Household Wealth (Mary Cussen, CBI)
·        New Characteristics and Hedonic Price Index Numbers (Peter Neary, Univ of Oxford)
·        Patterns of Firm Level Productivity in Ireland (Luke Rehill, DoF)

 

17:00-19:00

Economic and Social Review Guest Lecture: Professor Wendy Carlin (University College London and the CORE Project)

19:30 Dinner at ELY IFSC, CHQ Building
DAY TWO: FRIDAY MAY 11TH

Session 5: 9:00-10:30

5A          Macroeconomic Modeling

·        Shadow Bank run: The Story of a Recession (Hamed Ghiaie, Universite de Cergy-Pontoise)
·        Real exchange rate dynamics in New-Keynesian models – The Balassa-Samuelson mechanism revisited (Maren Brede, Humboldt-Universität zu Berlin)
·        Factor Misallocation and Adjustment Costs: Evidence from Italy (Robert Goodhead, CBI)
·        The Effect of Rents on Wages when Labour is Mobile Across Regions (Matija Lozej, CBI)

 

5B          Banking

·        EU banks and profit shifting: preliminary evidence from country-by-country reporting (Wildmer Daniel Gregori, EC)
·        Cross-border banking in the EU since the crisis: what is driving the great retrenchment? (Lorenz Emter, CBI)
·        Banking crises and investments in innovation (Oana Peia, UCD)
·        Pockets of risk in European housing markets: then and now (Jane Kelly, CBI)

 

5C          Agriculture & natural resources

·        Sea bass angling in Ireland: a structural equation model of catch and effort (Gianluca Grilli, ESRI)
·        Understanding Farmer’s Valuation of Agricultural Insurance: Evidence from Viet Nam (Anuj Singh, TCD)
·        Accounting for technology heterogeneities and policy change in farm level efficiency analysis: an application to the Irish beef sector (Maria Martinez Cillero, ESRI)
·        The impact of residential ‘weatherisation’ schemes on the domestic energy consumption of Irish households (Bryan Coyne, TCD)

 

Coffee: 10:30-11:00

Session 6: 11:00 – 12:30

6A          International Trade

·        The Heterogeneous Impact of Brexit: Early Indications from the FTSE (Ron Davies, UCD)
·        Research Dissemination, Distance and Borders (Lukas Kuld, TU Dortmund)
·        What’s Another Day? The Impact of Non-Tariff Barriers on Trade (Jonathan Rice, Central Bank)
·        Imported Intermediate Goods and Incomplete Exchange Rate Pass-Through into Export Prices (Alexander Firanchuk, TCD)

 

6B          Macroprudential Policy

·        An Early Warning System for Systemic Banking Crises – A Robust Model Specification (Michael Wosser, CBI)
·        The effectiveness of macroprudential policies in the euro area (Eóin Flaherty, CSO)
·        Macroprudential Policy, Uncertainty and Household Savings Behaviour (Conor O’Toole, ESRI)
·        Credit Booms, Macroprudential Policy and Financial Crises (Peter Karlström, Univ of Bologna)

 

6C          Political Economy & Institutions

·        Ebola, Resistance and State Legitimacy (Matthias Flueckiger, QUB)
·        Does Corruption Ease the Burden of Regulation? National and Subnational Evidence (Robert Gillanders, DCU)
·        Can labour market institutions mitigate the China Syndrome? Evidence from regional labour markets in Western Europe (Jan-Luca Hennig, TCD)
·        Refugees, migrants and the right-wing vote share: evidence from Sweden (Rachel Slaymaker, ESRI)

 

Lunch: 12:30-13:30

Session 7: 13:30-15:00

7A          Econometrics and Forecasting

·        Forecasting with FAVAR: Macroeconomic versus Financial Factors (Alessia Paccagnini, UCD)
·        Forecasting Irish Inflation after the crisis: Evaluating Multiple Bayesian Approaches (Shayan Zakipour-Saber, CBI)
·        Model Averaging in a Multiplicative Heteroscedastic Model (Alan Wan, City Univ of Hong Kong)
·        Phillips curves in the euro area (Laura Moretti, ECB)

 

7B          Macro-finance

·        Financial Crises, Macroeconomic Shocks, and the Government Balance Sheet: A Panel Analysis (Matteo Ruzzante, Universidade Nova de Lisboa)
·        Is Macroeconomic Uncertainty or Policy Uncertainty Priced in UK Stock Returns? (Jun Gao, UCC)
·        Eurobonds: A Quantitative Analysis of Joint-Liability Debt (Vasileios Tsiropoulos, CBI)
·        Constructing A Financial Conditions Index for the United Kingdom: A Comparative Analysis (Sheng Zhu, UCC)

 

7C          Applied Micro (2)

·        Crime Highways: the Effect of Motorway Expansion on Burglary Rates (Kerri Agnew, TCD)
·        Consumer Switching in European Energy Markets: A Comparative Assessment (Jason Harold, ESRI)
·        Expectations of future care needs and wealth trajectories in retirement (Rowena Crawford, IFS)
·        Expected Child Mortality, Fertility Decisions, and the Demographic Dividend in Low and Middle Income Countries (Mark McGovern, QUB)

 

Coffee: 15:00-15:30

 

15:30-17:15

Edgeworth Lecture: Professor Olivier Blanchard (MIT and Peterson Institute for International Economics)

 

17.30

Irish Economic Assocation AGM

 

Final Reminer: IEA Deadline Feb 11th

The 32nd Annual Irish Economic Association Conference will be held at the Central Bank of Ireland, New Wapping Street, North Wall Quay, Dublin 1 on Thursday May 10th and Friday May 11th, 2018. Gerard O’Reilly (Central Bank of Ireland) is the local organiser (gerard.oreilly@centralbank.ie).

The ESR guest lecture will be given by Professor Wendy Carlin (University College London and the CORE project) and the Edgeworth Lecture by Professor Olivier Blanchard (MIT and PIIE).

The Association invites submissions of papers to be considered for the conference programme. Papers may be on any area in Economics, Finance and Econometrics.

The deadline for submitted articles is the 11thof February 2018 and submissions can be made through this site.

Central Bank SME Market Report 2017 H2

The Bank’s SME Market Report for the second half of 2017 was released this week. The report can be found here.

Key results from the report include:

  • Annual gross new lending to non-financial, non-real estate SMEs in Q3 2017 is 24 per cent higher than a year ago.
  • The SME lending market has become more concentrated in the last six months, with fewer banks holding an ever larger market share.

  • The share of SMEs in Ireland reporting they did not apply for bank loans because of sufficient internal funding was 50.4 per cent in September 2017.

  • SME loan rejection rates in Ireland have increased to 13.9 per cent in September 2017 from 8.2 per cent in March 2017.

  • Interest rates for SME loans stood at 5 per cent in July 2017, high in a European context.
  • When scaled relative to domestic demand, new loan issuance to SMEs in Ireland is very low compared to European comparator economies.
  • The share of SMEs transitioning into default between the period December 2016 and June 2017 is 2.4 per cent. The highest transition rates reported in the Wholesale/Retail sector (2.9 per cent) and the South-east (3.4 per cent).

We have published the data behind each chart for the first time. The spreadsheet can be found here.

Irish Economic Association 2018 Conference

Irish Economic Association Annual Conference 2018

https://iea2018.exordo.com

http://www.iea.ie/

The 32nd Annual Irish Economic Association Conference will be held at the Central Bank of Ireland, New Wapping Street, North Wall Quay, Dublin 1 on Thursday May 10th and Friday May 11th, 2018. Gerard O’Reilly (Central Bank of Ireland) is the local organiser (gerard.oreilly@centralbank.ie).

The ESR guest lecture will be given by Professor Wendy Carlin (University College London and the CORE project) and the Edgeworth Lecture by Professor Olivier Blanchard (MIT and PIIE).

The Association invites submissions of papers to be considered for the conference programme. Papers may be on any area in Economics, Finance and Econometrics.

The deadline for submitted articles is the 11thof February 2018 and submissions can be made through this site.

Conference on Exchange Traded Funds

The Central Bank of Ireland will be hosting a Conference entitled “ETFs – Stability and Growth” on 29 November 2017 in the Convention Centre Dublin.

Are ETFs still the safe, simple, transparent product they are understood to be? Is the ETF structure appropriate for any type of product? Should there be limits? What impact do ETFs have on their underlying market and what liquidity concerns are relevant and valid in an ETF context?

Participation is free of charge and you can register your interest in attending by emailing ETF@centralbank.ie

Final details will be available on our website.

We look forward to seeing you and to engaging in a frank and open discussion on ETFs!

Developments in enterprise credit in Ireland

The Bank published the 2017 H1 edition of the SME Market Report last week.

Highlights from the report include:

  • Gross new lending to non-financial, non-real estate SMEs continues to grow. Annualised new lending to Q1 2017 was €3.6bn, a 32 per cent increase since Q1 2016. By way of context, between 2010 and 2013 this number ranged between €2bn and €2.5bn.
  • Despite this growth in new lending, the outstanding stock of credit to SMEs continues to contract. In Q1 2017, the stock of SME credit declined to €16.6 bn, down 8.2 per cent from the previous year. This reflects the fact that loan repayments, loan sales and liquidations are still more than offsetting new lending flows.
  • The SME lending market remains highly concentrated, with the market share of the three main lenders in new bank lending flows being 82 per cent.
  • The current application rate for bank finance is 20 per cent, which is lower than at any point since 2011. However, the share of these applications going to new loan and overdraft facilities continues to grow, while the share going to renewal and restructuring of existing facilities continues to fall.
  • The rejection rate on SME loan applications has risen slightly in the last year for Micro and Small firms, but continues to fall for Medium-size firms.
  • The default rate on SME loans in Ireland is currently 18.7 per cent. This rate is highest in the Construction and the Hotels and Restaurants sectors, while it is lowest in the Agriculture, Manufacturing and the “Other Community, Social and Personal Services” sectors.
  • Irish SMEs continue to pay a significantly higher interest rate on bank credit than other euro area SMEs. The premium paid on small versus large loans in Ireland also continues to remain significantly higher than that in comparator countries.

Link to the report can be found here.

The recovery in the public finances in Ireland following the financial crisis

Last week Diarmaid Smyth of the Central Bank presented a paper to The Statistical and Social Inquiry Society of Ireland (SSISI) on Ireland’s recovery from the economic and financial crisis. The paper and presentation provide a rich recent history of developments in Ireland’s public finances during the crisis and recovery.

Interested readers might also be interested in a follow-up piece by Brendan Keenan, titled ‘Foreign help and native skill all part of the recovery story’ in the Irish Independent citing both this work and research from Aidan Regan and Samuel Brazys (UCD) on the role played by FDI in enabling Ireland’s recovery.

Links

Paper:

http://www.ssisi.ie/Public_Finances_and_the_Crisis_in_Ireland_v1_8.pdf

Presentation:

SSISI Presentation_250517

Keenan article:

http://www.independent.ie/business/irish/foreign-help-and-native-skill-all-part-of-the-recovery-story-35775749.html

Brazys and Regan:

http://www.ucd.ie/geary/static/publications/workingpapers/gearywp201701.pdf

 

Barrington Prize – Statistical and Social Inquiry Society of Ireland

On behalf of the SSISI, please be advised that applications for this year’s Barrington Prize are now open.

Submissions should be based on a paper of not more than 7,500 words addressing a topic of relevance to economic or social policy and of current interest in Ireland.

Submission deadline: 8th September 2017.

Previous winners of the prize include Rebecca Stuart (Central Bank), Ronan Lyons (Trinity College), Mark McGovern (Queens) and Yvonne McCarthy (Central Bank).

Submission details here

The income distribution and the Irish mortgage market

How concentrated are mortgage originations among those on higher incomes? Has this pattern changed through expansion and contraction in the Irish housing market? Combining for the first time information on the incomes at origination of a large sample of Irish mortgage holders with survey information on the population income distribution in each year, my colleague Reamonn Lydon and I address these issues over the period 1994 to 2014 in an Economic Letter released recently by the Central Bank.

In the work we highlight that the income profile of borrowers entering the First Time Buyer, Mover-Purchaser (also referred to as Second and Subsequent Buyer), and Buy to Let markets is markedly different.

The first chart below shows the evolution of the share of new First Time Buyer mortgage originations going to each population quintile between 1994 and 2014 (income distribution data were not available to us for 2015 at the time of carrying out the work). A number of patterns are evident:

  • The share of those in the top income quintile fell from over 40 per cent in 1994 to around 12 per cent by 2008.
  • The share of those in the middle income quintile rose from 15 per cent to over 40 per cent over the same period.
  • There has been a slight reversal of this pattern since the financial crisis; however, the share of originations going to the middle quintile is still well ahead of the top quintile.
  • Those in the bottom 40 per cent of population incomes have generally accounted for less than ten per cent of mortgage originations in a given year.

ftb

Next we examine the Mover-Purchaser or SSB market, and find that:

  • There was a similar convergence in the market shares of the 5th and 3rd quintiles over the Celtic Tiger period.
  • The reallocation towards the top income quintile in this market has been much sharper since 2008, with the market share standing at above 60 per cent for 2014.

ssb

The findings suggest that the crisis has been associated with some significant structural shifts in mortgage market participation. In the case of the SSB market, it is possible that the role of negative equity in impeding mover-purchases has been much more prevalent in recent years outside of the top quintile of the population income distribution. In the case of First Time Buyers, where the changes have been relatively less pronounced, the shifting age profile, where borrowers are entering the market later in life, may also explain the shift towards higher-income purchasers. Our research does not attempt to definitively quantify the role of supply side (such as bank lending policies) and demand side factors in explaining these changing patterns.

Other related research was also released in the Bank’s recent Quarterly Bulletin: The balancing act: household indebtedness over the lifecycle, by Apostolos Fasianos, Reamonn Lydon and Tara McIndoe-Calder. Finally, another related piece came out as a Research Technical Paper on the Great Irish (De)Leveraging by Reamonn Lydon and Tara McIndoe-Calder.

Conference notification

The Central Bank and the European Investment Bank will jointly host a conference on “Investment and Investment Finance: Funding Growth and Recovery in Europe” on the morning of April 10th in the Bank’s new premises, North Wall Quay.

The following speakers are confirmed, and a full programme will be available on the Bank’s website in the coming days:

  • Michael Noonan, T.D., Minister for Finance
  • Prof. Philip R.Lane, Governor of the Central Bank of Ireland
  • Andrew McDowell, Vice-President, European Investment Bank
  • Gabriel Fagan, Chief Economist, Central Bank of Ireland
  • Debora Revoltella, Chief Economist, European Investment Bank
  • Danny McCoy, CEO, IBEC

Further information is available here.

Household formation among young adults

A guest post from Reamonn Lydon and Apostolos Fasianos of the Irish Economic Analysis division here at the Bank.

The overall population increased by 4% between 2008 and 2016. At the same time, the number of young adults aged between 20 and 34 fell by a quarter– from 1.15 million to 860 thousand (see Table 1. See also the excellent study by Glynn, Kelly and MacEinrí (2015) on migration patterns for this group).

Table 1 CSO population estimates (Table PEA01)
 (`000s) 2008 2016 % change
Age <20 1209 1327.4 9.8%
20-24 373.6 226.8 -39.3%
25-34 777.8 633.6 -18.5%
35-44 662.2 733.2 10.7%
45-64 978.9 1127.2 15.1%
65+ 483.7 625.5 29.3%
4485.2 4673.7 4.2%

The large decline in the 20-34 population means that housing demand will be lower than the past.  However, there have also been significant changes in the household formation patterns of this group which are relevant when it comes to thinking about housing demand in the future.  As the figure below shows, just before the property crash just over 30% of young adults lived with parents, but by 2016 this had risen 37%.  Taking into account the population drop, this is around an additional 25,000 young adults versus the situation in 2006, and just under 320,000 in total living with parents in 2016.

F1Census data for 2016 is not yet available to calculate the latest figures, so we have drawn on the QNHS and Household Finance and Consumption Survey (HFCS, 2013) to try and complete the picture to 2016.  The HFCS is particularly useful as it allows us compare Ireland with other countries (Figure 2).  Ireland looks similar to both the EU and US (although the US data is for 18-34 year olds living with relatives, not just parents), but is somewhat higher than the UK. We know, however, that UK third level students are more likely than their Irish counterparts to live away from home.  Southern European countries, with relatively high rates of youth unemployment – such as Spain, Portugal and Italy tend to have a higher proportion of young adults living with their parents.

rea2

What do these figures mean for housing demand?

The answer depends on the extent to which you believe the shift towards more young adults living at home is a cyclical or a structural change. Certainly, there is a slow-moving cyclical part to it – the proportion rose as the employment prospects for this group worsened and young people stayed on in education (Conefrey, 2011).  The CSO also reported a sharp drop in the proportion of 19-24 year-olds in shared accommodation (i.e. renting), from 22 to 18% between 2006 and 2011.  So there may be a jump in demand in the short term, because not only do the delayed entrants want to enter the market after a (cyclical) delay, but those who are younger will now start forming households at a younger age.  There is already some evidence of this in the 2016 QNHS, which shows the percentage of 20-24 year olds living at home falling for the first time in almost 10 years, from 70 to 68%.

However, there might also be structural changes to consider. For example, if the easy credit of the bubble years meant that buyers got on the housing ladder at a younger age than previously, and this has since been reversed, then the ‘pent-up’ demand might not be so large.  We know that the average age of FTBs has risen in recent years, having fallen during the boom.  In this case, young adults could continue to form households at a rate similar to what we are now seeing.

In all likelihood, the shifts we have witnessed are a mix of cyclical and structural changes. However, how much is cyclical does matter. As Table 1 showed, there were just over 860,000 20-34 year-olds in 2016. Ignoring immigration flows which could increase the size of this age cohort further, each 1% fall in the proportion living at home means an additional 8,600 individuals looking to rent or buy. This is a large figure in the context of current estimates for annual housing demand, which range from 20,000 and 40,000 units.

Central Bank workshop on macroprudential policy

The Central Bank will host a workshop entitled “Evaluating the effectiveness of macroprudential policies” on Wednesday February 8th in the Institute of Banking in conjunction with the European Central Banking Network and the Centre for Economic Policy Research. A description of the event is outlined below.

Macroprudential policies to mitigate structural and cyclical systemic risk are now in operation in a number of countries.  Assessing the impact of these policies on the resilience of the financial sector and the wider economy is at the core of research and policy activities following the crisis.  Given the multi-faceted concept of financial stability that these policies are meant to contribute to and the still emerging theoretical framework, a number of analytical approaches have been advanced for policy evaluation and design.  The workshop will bring together the policy and academic communities to consider these evaluation approaches covering the use of macro models, time series techniques and the analysis of micro data. Of particular interest are those policies aimed at enhancing the resilience of banks, households and other sectors of the economy through building up structural capital buffers (e.g. G-SIB, O-SII, SRB) and enacting borrower-based measures (e.g. Loan-to-Value and Loan-to-Income limits).

Programme: 

08:45 Coffee and Registration

09:15 Session 1 Policy Panel – Chaired by Fabrizio Coricelli (Paris School of Economics and CEPR) with Vice-President Claudia M. Buch (Deutsche Bundesbank), Governor Boštjan Jazbec (Banka Slovenije), Governor Philip R. Lane (Central Bank of Ireland)

10:00 The use and effectiveness of macroprudential policies: New evidence – Eugenio Cerutti (International Monetary Fund)

10:50 Coffee

11:10 Inspecting the mechanism: Leverage and the Great Recession in the Eurozone – Philippe Martin (Science Po Paris and CEPR)

12:00 The impact of bank capital on economic activity – evidence from a mixed-cross-section GVAR model – Christoffer Kok (European Central Bank)

12:50 Lunch

14:00 Capital inflows – the good, the bad and the bubbly – Dennis Reinhardt (Bank of England)

14:50 The impact of macroprudential housing finance tools in Canada: 2005-2010 – Tom Roberts (Bank of Canada)

15:40 Coffee

16:00 Objective-setting and communication of macroprudential policies – Jochen Schanz (Bank for International Settlements)

16:50 Closing remarks – Governor Philip R. Lane (Central Bank of Ireland)

The workshop is hosted by the Central Bank of Ireland as part of a series of annual events organized by the European Central Banking Network (ECBN) in cooperation with CEPR.

To register for the event or for any queries, please email fsdadmin@centralbank.ie by Friday 3rd February 2017.

Venue: The Institute of Banking, Citi Building, IFSC, 1 North Wall Quay, Dublin 1, Ireland – https://goo.gl/maps/aLj85WQdjWu.

Central Bank presentations at the DEW

Four presentations from Central Bank economists were made at the recent Dublin Economics Workshop, reflecting a range of research activity on the commercial real estate, enterprise credit and interbank markets. Paper titles and a brief description below.

Eoin O’Brien and Maria Woods: “Applying a macroprudential risk analysis to Irish commercial  real estate prices”

Research focuses on Irish commercial real estate market and presents a range of indicators that can be used to assess the sustainability of prices and enhance the Central Bank of Ireland’s existing macroprudential risk assessments of this sector.  Developing analytical tools to identify real estate risks, among other areas, is a priority for policy makers focused on mitigating systemic risk.  To complement traditional statistical indicators of price misalignment such as the deviation of the price-to-rent ratio from its historical average, two reduced form models are specified drawing on the property literature and long-run Irish data (1985Q1 to 2013Q4) to approximate a fundamental price series.  Periods where actual prices deviate from this fundamental series can be identified over the sample.  Non-linear methods suggest that the relationship between price changes and estimated misalignments may vary over the property cycle.

James Carroll, Paul Mooney (Dept of Finance) and Conor O’Toole: “Irish SME Investment in Economic Recovery”. Link (p73).

An in-depth look at the types of SME engaging in investment during the economic recovery, along with the financing sources behind said investment. Key findings:

  • The share of SMEs investing has increased steadily since 2012, and currently about a third of SMEs are investing on a six-monthly basis.
  • Younger firms, controlling for other firm characteristics, invest more. Improvements in profitability and turnover are important drivers of investment.
  • SME investment responds to regional  economic conditions, as measured by the unemployment rate.
  • Smaller, younger, non-exporting firms, who are likely more reliant on local household spending, respond most to domestic conditions.
  • Investment is mainly financed through internal funds, and there is no evident increase in the external financing share since early 2013.

James Carroll and Fergal McCann: “Cross-country comparisons of SME borrowing costs”

This research provides a methodology to strip out borrower- and bank-related factors which may form part of the explanation for cross-country interest rate differentials. Using the case of UK and Irish lending by Irish-owned banks, the research suggests that, of a 240 basis point (bps) difference in raw average borrowing costs, about 100-150 bps is not explained by bank- and borrower-level characteristics and can therefore be attributed to market-level factors such as bank competition, collateral enforceability and the aggregate outlook for default probabilities. Earlier research from the two authors shows that across Europe, such aggregate factors are indeed associated with higher enterprise borrowing costs.

Paul Lyons and Terry O’Malley: “Monitoring Ireland’s payments system using Target II”

  • Research provides a description of Ireland’s component of the Eurosystem’s large value payment system (TARGET2-IE).
  • TARGET2-IE forms an important part of the Bank’s analytical toolkit in that it can be used to examine the degree of interconnectedness between banks in Ireland; to develop indicators for systemic risk monitoring; to map Ireland’s payment networks to provide a source for measuring price and quantities in the short term interbank loan market involving Irish banks.
  • Early research results identify differences between the interbank and customer payments networks with the customer payment network displaying a small number of highly connected banks in addition to a large number of isolated banks.

 

Central Bank of Ireland Macro Financial Review 2016:1

The Bank’s most recent Macro Financial Review (MFR) was released recently. As well as providing an in-depth view of financial developments and risks in all key sectors of the economy, the MFR also contains a number of interesting analytical boxes on topics such as the components of NFC debt, SME actions after a credit rejection, household financial vulnerability estimates, residential property price expectations, new indicators of systemic stress and financial conditions, CoCo bonds and reciprocity in macroprudential policy.

The key messages from this most recent MFR can be summarised as follows:

  • Risks to the economic outlook are weighted to the downside and relate mostly to uncertainty in the external financial environment.
  • While economic conditions are improving, public and private sector indebtedness remain high.
  • Workout of impaired loans and disposal of non-performing loans in banking sector ongoing, domestic bank profitability remains weak.
  • Mortgage regulations: Call for evidence which will inform review opens from 15 June to 10 August.

The full report can be downloaded here.

Mortgage term as a credit condition

The aim of this post is to introduce the topic of mortgage term to maturity in an Irish setting. I will outline how mortgage terms were highly pro-cyclical during the pre-2008 expansion, and that they were used by credit-hungry borrowers to make high-leverage strategies more affordable on a monthly basis. It is well established that credit conditions, as measured by Loan to Value ratios (LTV), Loan to Income ratios (LTI) and Debt Service Ratios (DSR, ratio of monthly repayments to net income) reached unsustainable levels in Ireland in the run-up to the 2008 crash.[1]  By contrast terms have received much less attention. Previous work by McCarthy and McQuinn (2013) on Irish credit conditions is the only piece known to me which contains an analysis of mortgage terms. They show that median terms increased rapidly in the 2000-2008 period, and did not decrease after the housing market crash. Further, they show that terms were higher for First Time Buyers, and that longer terms are correlated with an easing in other credit conditions. Today’s post concerns recent analysis carried out by my colleague Edward Gaffney which looks at the distribution of mortgage terms for loans originated between 1997 and 2014.

Why should mortgage terms be of interest to us? Firstly, they can have a huge impact on mortgage affordability. Identical loans, for identical houses, to people with identical incomes, at identical interest rates, can have widely varying monthly repayments driven by varying terms. As a simple example, a loan for €250,000 at an annual rate of 4.5 per cent has a monthly repayment of €1,581 when taken out over 20 years, which falls to €1,183 when that loan is extended to 35 years. A saving not to be sniffed at!

Secondly, they appear to have associations with risk-taking behaviour. Research from Central Bank colleagues[2] has shown that, controlling for a range of factors associated with higher credit risk, mortgages with longer terms are more likely to default, even though a longer term allows for a lower monthly mortgage repayment, all else equal!

Finally, terms also have a big impact on banks’ profitability, as longer term loans will have higher lifetime interest income for the bank. Further, longer terms allow banks to make larger loans while continuing to respect any Debt Service to Income rules that may be in place.

So what can we say about mortgage terms in Ireland? In all that follows, I will focus on the First Time Buyer (FTB) segment of the mortgage market. Our first figure (Fig 1) provides clear evidence from Edward’s work that mortgage terms lengthened significantly during the boom phase in Ireland. Of the 1997 cohort still outstanding in 2014, 60 per cent were originated with terms of 20 years or less, with 90 per cent having terms under 25 years. At the turn of the millennium, the 35 year mortgage was close to non-existent. However, its proliferation through the period of rapid credit growth was quite remarkable, moving to a market share of roughly 50 per cent by 2006-07, with a further 5 per cent of the market taking terms between 35 and 40 years.

While Kelly, McCann and O’Toole (2015) report that credit conditions tightened considerably in the aftermath of the financial crisis, Edward’s chart shows that “credit tightening” in mortgage terms has been much less stark, with 60 per cent of mortgages originated in 2014 still having terms above 30 years.

Fig 1: The distribution of originated mortgage terms per year, First Time Buyer segment 1997 to 2014.

term_line

This evidence of a structural shift towards longer terms begs a number of questions relating to the role of term as a credit condition. Figure 2a from Edward’s work provides conclusive evidence that, during the boom phase, longer terms were associated with higher leverage. In 2007, those taking out 40 year mortgages had an average LTV of over 90, with LTVs of 85, 72, 60 and 50 as we move in five-yearly intervals down to 20 year mortgages. While these LTVs have converged since the crisis, the rank ordering persists. Figure 2b completes the picture by showing that borrowers on different terms have in fact been accessing similarly valued houses, which implies of course that those with longer terms were taking out larger average loans. Taken together, these figures strongly suggest that term was being used by FTBs to mount the property ladder at as high a point as possible for a given down-payment amount, using higher originating LTVs to access valuable housing with small down-payments and large loans, while easing the monthly repayment burden of this high-leverage strategy via longer terms.

Figure 2: Average LTV and property value for mortgages originating at different terms.

(a)    LTV (b)   Average Property Value
 term_ltv  term_val

Our next piece of evidence links borrowers’ incomes to mortgage terms. Figure 3 reports clear differences in originating Loan to Income ratios (LTI) across term groups. Those on 40 year mortgages in 2007 were accessing loans with an average LTI of 5, while the equivalent number was under 3 for those with 20 year mortgages, again providing strong evidence that mortgage terms were used as part of a broad “credit conditions package” by credit-hungry borrowers. Figure 3(b) confirms that this highly-indebted strategy was in fact more common among high-income borrowers in the run-up to 2008, with median incomes falling as terms shorten. The one exception to this rule is the 40-year mortgage, which appears to have been popular among lower-income households with extremely high LTIs during its short existence.

Figure 3: Average LTI and income for mortgages originating at different terms.

(a)    Loan to Income ratios (b)   Incomes (median)
 term_lti  term_inc

So where did this “credit condition package” leave borrowers on a monthly basis? It is unclear from the above whether long terms acted to offset the affordability difficulties brought on by high-leverage strategies. To do this, Edward calculates a monthly repayment to gross income (RTI) ratio for each loan in the data, applying an indicative opening interest rate. The evidence is conclusive: despite the fact that longer terms mechanically improve mortgage affordability by lowering repayments all other things equal, it was still the case up to 2008 that borrowers with longer terms were taking out such large loans that their RTIs were in fact higher than borrowers with shorter terms. This is likely part of the explanation for the finding of Kelly, O’Malley and O’Toole (2015) that longer-term mortgages have higher default probabilities, even after controlling for a range of explanatory factors.

More posts on the mortgage market in Ireland to follow over the coming months.

[1] McCarthy and McQuinn (2013) and Kelly, McCann and O’Toole (2015)

[2] Kelly, O’Malley and O’Toole (2015)