Governor Honohan’s mortgage proposals have been met by some unease in banking circles
The fear and loathing over the Central Banks plan to impose an 80% Loan-to-Value limit on mortgage lending is somewhat overdone.
From the spectre of a lost generation of first time buyers witnessing the property ladder being pulled up into the tower and out of their grasp, to the builders who say there is no point in building to meet the demand that’s there because the “lost generation” can’t get a mortgage; there is no shortage of nay-sayers conjuring up appalling vistas around the Central Bank’s modest proposal.
In fact, first time buyers will not be “forced” to save up a 20% deposit to buy a house: the solution to bridging the gap between the need to make finance safer and the need to house the population is mortgage insurance.
The thinking in Government circles is to encourage private insurance companies to offer mortgage protection policies that would cover 10% of the LTV amount, allowing the Banks to lend up to 90% of LTV.
The borrowers would then have to come up with a more traditional 10% cash deposit.
The effect would be that the bank is protected against the first 20% of any loss on the mortgage. This achieves the Central Banks aim of making the banks safer, whilst at the same time not putting house purchase beyond first time buyers with an impossible savings target.
But it is going to have to be private insurance – the State cannot afford to underwrite any more risk, especially that related to property. And the Governor of the Central Bank has said that the insurance providers have to come from outside the State – otherwise mortgage insurance just re-shuffles risk from one bit of the Irish system to another.
Sounds sensible, but given the extraordinarily high levels of mortgage default in this country, aren’t foreign insurers going to be either scared off, or have to “load” policies to cover the much higher risk levels here, meaning the punter has to pay more?
Apparently in Canada the typical mortgage insurance product leads to the full cost of insuring the mortgage capitalised upfront and then paid off in monthly instalments over the lifetime of the loan.
In the United States there has been widespread use of mortgage insurance, and it has hardly undermined that bit of the American Dream related to home ownership.
That said the mortgage insurance business itself can be risky, as Governor Honohan mentioned in his speech dealing with this topic last weekend in Portlaoise:
“Though not having recourse to the borrower, the main mortgage lenders in the US have generally sought a second signature – mortgage insurance provided to the lender by an insurance company – in the case where the initial loan-to-value ratio exceeds 80%. Specialised mortgage insurers providers in the US did rather badly in the crisis of 2008-10 and there were failures. But mortgage insurance is a method that has been used in that country (and others) for almost a century to enable borrowers to obtain finance for housing without actually having to save the 20% that would otherwise have been insisted upon by the lenders and their regulators.
“The Central Bank’s recent consultation paper pointedly raises the question of whether adequately insured mortgages should be allowed to exceed the general 80% rule which has been proposed – this might cover up to 90%, for example. While we point out that too liberal a use of such insurance can have the effect of neutralising the effectiveness of a ceiling on loan-to-value ratios as a mechanism for preventing house price bubbles (and while it typically provides no protection to the borrower), this would be less a concern if limited, for example, to relatively small loans and/or first time buyers. Of course, mortgage insurance would achieve relatively little if it merely shuffled systemic risk around within the domestic economy: external insurance from solid insurers would be needed.
So the Central Bank is up for the idea of mortgage insurance, and so is the Government. What we need now are the insurers coming into this market with their products – hopefully at prices we can afford.
But it is noteworthy that the Governor only sees insurance as an option for first time buyers. Anyone else moving up the property ladder will have to do so by laying down a fair chunk of capital gain, thus limiting the amount they can borrow – exactly the aim of a policy that wants to reduce the risk of over-indebtedness.
In the meantime there is the less remarked on second part of the “consultation”, the Loan-to-Income ratios, which the Central Bank wants to cap at 3.5 times the combined earnings of the borrowers. Again, the aim is preventing over-indebtedness.
Ulster Bank CEO Jim Browne told the Oireachtas Finance Committee this week that if the new rules were in force this year, then 68% of its first time buyers would not have been granted mortgages.
So who is in the wrong here – is it the Central Bank, with a macro policy aim that will in effect keep first time buyers out of the market: or is it the banks, who on this evidence may already be lending too much to borrowers?
It all depends on whether you think house prices are too high even after the property crash, or whether you see plenty more room for house price growth. In an already heavily indebted country, and at a time of near zero Central Bank interest rates, is it really economically sensible to allow people to borrow to the max?
Here’s more of the Governors speech:
“It doesn’t mean that no borrower will become over-indebted. For one thing we do envisage continuing to allow high LTIs – just not too many of them. For another, current income is not a perfect predictor of future income. So our proposed macro-prudential measures will not substitute for good loan appraisal decisions by banks (who are not, according to our code of conduct, supposed to make loans except they be affordable and suitable for the borrower), and good financial decisions by the borrower. But limiting the volume of high LTV and LTI loans for macroeconomic and financial stability reasons should have a beneficial consumer protection side-effect in reducing the re-emergence of over-indebtedness.
“Meanwhile we at the Central Bank will not shirk our responsibility to do what is in our power to deliver on our mandate to protect the new generation establishing households – and the nation at large – from the risk of a repetition of what happened before. We seek to do so with the minimum of adverse side-effects.”
While most of the attention around these changes to mortgage rules has been focused on the plight of first time buyers, and more latterly on the plight of housebuilders, what of the interests of the wider economy? Is short term sectional interest really going to trump long term financial stability and sustainability?
The Central Bank’s plans to put caps on LTV and LTI ratios for mortgage lending is intended to make the banking system safer.
So the chief beneficiaries of such a move should be (a) bank shareholders: (b) bondholders: and (c) taxpayers, who should all have a little less to fear from bank managements running amok with lending again.
Now that bank management’s compensation is supposed to be linked to the long term performance of their employer, one would have supposed that safe – i.e. long lasting – banks would be in their interest as well. But the rather tepid response from the commercial lenders to the Central Banks “Consultation Document” seems to suggest otherwise.