Composition Effects and Loan-to-Value Limits

The Irish Central Bank is scheduled to introduce new macro-prudential risk controls on Irish mortgage lending, with the new regulations taking effect on January 1st or soon thereafter. One of the regulations will limit most new mortgages to an initial loan-to-value ratio of 80% or less. There has been considerable discussion of the effect of loan-to-value limits on potential property purchasers, but the analysis has been very poorly framed.

The budgeting scenario has been described as follows:

“Consider a couple who wish to purchase a €300,000 property. With a LTV limit of 80% this will require that they save €60,000 for the down payment whereas if they were allowed to borrow 85% they would only need savings of €45,000.”

This oft-repeated budgeting scenario misrepresents the nature of market-wide LTV limits imposed by the Central Bank. This budgeting scenario gives the impression that the policy decision is about imposing/not imposing the LTV constraint on only one particular buyer rather than market-wide. It misses the large compositional effects since leveraged property buyers compete with one another for properties. The degree of leverage allowed in the banking system feeds into property prices, and this affects the opportunity set of purchasers.

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Educational Reform and all that…

Educational reform and Junior Cert reform in particular has been getting a bit of coverage lately.  One observation which struck me was by Tom Collins, formerly Professor of Education at NUI Maynooth.  He mentioned anecdotal evidence claiming that primary school teachers could predict eventual secondary school educational outcomes from as early as six years of age.  Some recent work I did is consistent with this observation (http://www.ucd.ie/t4cms/WP14_20.pdf) .  Using Growing Up in Ireland data, I  looked at the scores of nine year olds in the Drumcondra maths and reading tests.  Children were partitioned into four groups on the basis of their mothers’ education.  Rather than looking at gaps in average outcomes for each group, I looked at gaps for selected percentiles.  This is in the spirit of John Romer’s analysis of inequality of opportunity, whereby between-group gaps calculated at the same percentile are regarded as having to some degree controlled for “effort” and the gaps can be regarded as reflecting ex post inequality of opportunity.  At the limit the gaps are about one standard deviation and are pretty constant across percentiles.  I also perform quantile decompositions for pairwise gaps and find that in general about one third to  one half of the gap is accounted for by observable characteristics (including school, class-size and teacher characteristics) with most of this “explained” gap arising from income and the number of books in the house.  Unobserved factors and “returns” to observed factors thus account for more than half the gaps.

The paper provides evidence that gaps in educational outcomes, on the basis of parental education, kick in at remarkably early ages.  It is also consistent with the idea that returns to education apply across as well as within generations.  There is a good recent review of this area by my colleague Paul Devereux here http://wol.iza.org/articles/intergenerational-return-to-human-capital.

Implementing Limits on LTVs and DTIs: A Cross Country View

The Riksbank and IMF recently organised a conference on macroprudential policy – programme here.

A presentation on “Implementing Limits on LTVs and DTIs: A Cross Country View” by Luis Jacome and Srobona Mitra of the IMF is here.

Bank funding costs: what are they, what determines them and why do they matter?

This new Bank of England primer is helpful in the context of the current concerns about the funding costs facing Irish banks – here.

EC Assessments of Budgets

The European Commission have published their assessments of the draft budgets from the 16 eurozone countries covered by the assessment (programme countries Greece and Cyprus are not involved).  Of the 16, five were judged as “compliant” by the Commission (shown in green below).

A huge amount of material is available here.  For Ireland there is the:

The Commission have also published the Alert Mechanism Report as part of the Macroeconomic Imbalance Procedure. There is also the Statistical Annex from which Ireland’s scorecard is extracted here and shows four “imbalances” with house prices likely to add a fifth.  The “auxiliary indicators” may also be worth a glance.

This is still early days for the European Semester but at the moment it feels a little like a blizzard covering everything.  It seems to be designed on the maximin principle – by including everything they can’t be accused of missing anything.  The problem is that the important points may get lost in the noise.