Economics 6/7/10: Mortgage Arrears Group Report: soapy and wooly

Mortgage Arrears and Personal Debt Expert Group, Interim Report was published today. Its stated objective is to provide recommendations, "focused on actions/solutions that effectively address immediate priorities and are capable of implementation in a relatively short time frame” to deal with defaulting mortgages and rising arrears.

Apart from the report being about 18 months too late, I missed any actual solutions or actions that would help addressing these priorities. Instead, the report contains 44 pages of rather general, if lofty, talk about the need to do things, discuss things and agree to things. A handful of meaningful recommendations it contains actually set out nothing more than the best practices that all lenders should pursue regardless of the Working Group effort.

In the end, the entire report is roughly 90% rehashment of arrangements that already exist in the industry, with a call to standardize these, plus 10% relating to stronger Social Welfare protection measures. If you are a private homeowner in trouble (negative equity, fallen income, including due to higher taxes, or loss of one income without crossing means tested barrier) you are not covered by the Report.

Let's take a look at those recommendations that do contain at least some substantive proposals.

37. The Financial Regulator should amend its quarterly public report on mortgage arrears to record, amongst other things, the number of mortgages that have been rescheduled. (Page 11)

[It is mind boggling to think that there is a need for a Working Group to get to this done. One would assume that the FR could have established such a reporting system on their own.]

38. The Department of Social Protection should introduce an alternative and more equitable approach to achieving the MIS [Mortgage Interest Supplement] objectives and maintaining its sustainability in light of changes in the economic climate and the mortgage market.
This should cover issues such as:

• No legal action should be taken by the lender while MIS is being paid and the borrower is cooperating with the lender. [logical]
• The ban on paying MIS to a couple where one person is in full-time employment should be removed and a revised means test developed. [logical]
• The current rule which excludes the payment of MIS when a house is for sale should be suspended. [Logical, but there should be a strict limit for such payments – say average duration of sale, plus 3 months – to discourage ‘perpetual’ listings and unrealistic pricing. None are set.]
• The State should not provide MIS where the lender is charging interest above the market rate. [This might be logical, but presents a problem for subprime borrowers who are more likely to be in distress.]
• MIS should only be payable where no capital is being repaid.
• MIS should be paid directly into the mortgage account of the borrower.
• Lenders should agree forbearance options with borrowers for a period of six months and ensure the SFS is completed before the State shares the responsibility by providing MIS support to the borrower. [logical, but potentially too restrictive]
• An overall time limit for MIS should be considered to ensure that the scheme does not act as a disincentive to seeking or retaining work. [What limit? How is it to be determined?]
• The scheme should remain as a short term income support. [How short? Especially, how short relative to expected length of unemployment spells?]
• Where a borrower’s situation is or becomes unsustainable, they should be facilitated, if necessary, in applying for social housing appropriate to their needs. [Errr, sure… why is this even being established here?]

In three words - largely useless fluff.

40. Urgent consideration should be given to the effective implementation, in the shortest possible timeframe, of measures for the comprehensive reform of both judicial bankruptcy proceedings and the establishment of a non-judicial debt settlement process.

[You can get this advice without paying for a working group. Just listen to any radio programme about mortgages arrears or read newspapers and you’ll hear or read someone speaking about the need for such a reform, with actually more details supplied than in the current report].


There is a really bizarre, if not outright offensive, claim in the report (chapter 3 - which incidentally provides volumes of rehashed unoriginal information on housing market bust) relating to the negative equity mortgage holders:

“Recent ESRI research estimates the number of mortgage borrowers in negative equity. House price declines to date, coupled with the anticipated price decline in 2010 would take the number of borrowers up to 250,0009. Although this represents a large number of households in absolute terms it is a small proportion of the stock of households in Ireland.”

Now, there are 791,000 mortgages in Ireland according to the same report (page 17). Which means that negative equity is expected to impact roughly 1/3 of all mortgage holders in the nation. How this can constitute a ‘small proportion’ of households, beats me.


“Lenders must not require the borrower to give up their low cost tracker or other existing product if to do so would put the borrower at a financial disadvantage.This must be publicly communicated by all lenders.” (page 19)

This introduces a bit of dilemma for the banks – if the banks are to continue subsidise tracker mortgages, especially non-performing ones, who will cover the banks’ losses? Of course, variable rate mortgage holders, who are, predominantly, at a higher risk of default, and at a higher risk of negative equity. So is this idea of preserving tracker mortgages a cure that can make the disease only stronger?

Needless to say, the working group should have done some work and estimated what would be the impact of continued tracker mortgages losses on costs of mortgages to variable rate holders. And then stress-tested the actual loans against this. But, alas, this was not performed. So hold on to your seats, folks, the working group solutions might give a rough ride in the near future, as banks hike up their mortgage rates to compensate for the working group’s well-meaning, but un-researched recommendations.


Crucially, there is nothing in the Group recommendations preventing lenders from arbitrarily forcing higher and higher repayments on people who might be currently compliant with their mortgage repayments, but are in either severe negative equity or otherwise in breach of loans covenants. In other words, being pro-active – the advice given by the Group to mortgage holders – is not something the Group itself is following.


“All lenders should publish the types of forbearance that are available under their MARP and the guidelines they are employing for decision making on which approach is appropriate for typical sets of financial circumstances. These could include one or more of the following alternative repayment measures [notice – this is really crucial – ‘one or more’, which means that none, collectively, of the below actions are required, page 27]:

An arrangement on arrears could be entered into whereby the amount of monthly repayment may be changed, as appropriate, to help address the arrears situation [Presumably this should not alter conditions to the detriment of the borrower, yet that is not explicitly specified in the statement].

Deferring payment of all or part of the instalment [sic] repayment for a period might be appropriate where, for example, there is a temporary shortfall of income [How this is to be determined remains unknown – if unemployment is deemed ‘temporary shortfall’ then ‘temporary’ might mean 12 months or 36 months].

Extending the term of the mortgage could be considered in the case of a repayment loan - although this may not make a significant difference to the monthly repayments.

Changing the type of the mortgage (e.g. to interest only) might be appropriate if this could give rise to a reduction in the level of monthly mortgage outgoings.

Capitalising the arrears and interest could arise where there is insufficient capacity over the short term to clear the arrears but where repayment capacity exists to repay the capitalised balance over the remaining term of the mortgage. This measure may be considered where a pattern of repayment has been established and where sufficient equity exists. [Does this mean equity sharing with the lender? If so, on what terms? How these terms should be set? Simply to say ‘capitalising can be allowed’ is not good enough for a Working Group report]”

So in brief, this report is hardly worth 47 pages expended on it. It is not even worth the first few pages that serve as a summary. And it certainly not something you'd expect from a really concerned Working Group labouring over it for 5 long months since February 2010.

Economics 5/7/10: The toll of un- & under-employment

Two interesting charts on the ratios of full-time employed and live register signees to total working age population (note, this combines quarterly data from QNHS with monthly LR data, all expressed in quarterly terms):
I can't spot any turn around in either chart, yet both reflect the extent to which the burden of unemployment and under-employment is impacting this economy - on both sides of equation: for those who lost their work (the truly tragic outcome) and for those who have to cover the nation's bills while remaining in employment (also having tougher times).

Economics 5/7/2010: Future of our cities

This is an unedited version of my current article in Business & Finance Magazine:

Global recovery, no matter how tenuous, is poised to present a new set of challenges and opportunities for smaller open economies, such as Ireland. These challenges relate to the changing nature of economic growth and competition worldwide.

Starting with the early 2000s, there is a new ‘brain-and-creativity’ economic growth paradigm that is emerging across more dynamic globally-integrated economies. In this new paradigm, cities and larger urban-centred regions are increasingly competing for highly mobile and diversified human capital, and creativity and innovation capabilities associated with it. This trend represents a far wider change than the much-talked-about ‘knowledge’ economy. In fact, according to our research at the IBM’s Institute for Business Value, it represents a re-orientation of the core sources for future growth away from the traditional ‘bricks-and-mortar’ economy based on physical capital (e.g. buildings and equipment) and financial capital, and toward human capital or talent-intensive growth.

Last month, Dublin-based IBM’s Global Centre for Economic Development that forms a part of the Institute for Business Value (IBV) published a study titled Smarter Cities for Smarter Growth: How cities can optimise their systems for the talent-based economy. Co-authored by Susanne Dirks, Dr Mary Keeling and myself, the study looked at the changing nature of competitiveness that cities and larger urban areas around the world will be facing over the next 10-20 years.

It offers important policy and investment priorities insights not only for world’s leading cities, such as New York, London, Tokyo, Shanghai, but also for smaller open economies, such as Ireland.

The core insight from the study is that creativity, knowledge and skills, together with technological innovation are becoming the key drivers of economic growth and activity.

For example, the share of overall economic value added attributable to creativity, knowledge and skills-intensive sectors of the economy (e.g. internationally traded and other higher value-added services, design and innovation-centred manufacturing, etc) is expected to increase by 8.2% over the current decade.

Cities are natural hubs for this growth for two reasons.

Globally, leading cities have GDP shares of their national economies that are up to 5 times higher than their share of national populations. Top 100 cities worldwide accounted for roughly 25% of the world’s GDP in 2005. By 2008 this had increased to over 30%. As charts 1 and 2 in my earlier post (here) on cities weights in domestic economies illustrate, Dublin clearly falls within this category of cities that represent a leadership flank in their respective domestic economies.

Second, cities, and greater urban areas, are at the forefront of global competition in higher value-added, and creativity and knowledge-intensive sectors. Between 1999 and 2007, skills and knowledge intensities of some 350 urban economies comprising OECD member states have increased dramatically.

In 1999 average urban area in the OECD had 25% of its population holding third level degrees or higher. By 2007 this number increased to 29%. Over the same time, the degree of skills and knowledge utilization in urban economies also increased. Modern services – a sector that is at the forefront of the new economic paradigm – saw its share of overall employment rise from 34% to 38% in 8 years to 2007. With these changes, income per capita rose from the average USD27,400 to USD36,050, expressed in constant dollar terms.

A similar dynamic took place in Ireland, where Greater Dublin region, inclusive of commuter belt, saw its proportion of the workforce with tertiary or higher education rise from 25% to 39% between 1999 and 2007. Contrary to most of the commentary on Irish development model, the Greater Dublin area has moved from being average in terms of skills presence in the OECD at the cusp of the new Millennium, to above average by 2007. Over this period, the share of modern services in total regional output rose from 34% to 38% in Dublin, while per capita income rose from USD31,900 to USD46,300.

Our data analysis clearly shows that urban income per capita has been strongly positively correlated with rising importance of skills, innovation and knowledge in the economy. Our forecasts also indicate that this trend is going to strengthen over time. For example, there is a rapid change in the relationship between technological innovation and talent contribution to productivity that is emerging across all industries. Instead of technological innovation serving as a strong substitute for labour, it is becoming a supportive enabler for people and their skills. This relationship is forecast to strengthen by over 70% by the end of this decade in modern sectors and is set to become positive for the first time in over 40 years in traditional sectors as well.

For cities this transformation means new model of development and growth – a model focused primarily on the need to build a diversified, highly skilled and creative workforce capable of developing and absorbing technological, managerial and creative innovation.

Change in demand for skills in EU27
Net increases in excess of demographic factors, millions of jobs
Source: CDEFOP, 2009 and 2010, and IBV analysis

Forecasts show that demand for talent, creativity and skills is expected to accelerate dramatically over the next 10-20 years (Chart above). In the EU27 alone, growth in demand for higher skilled workers is expected to double from 10.1 million in 2007 to 20.1 million in 2020, according to the European Commission. At the same time, demand for low skilled workers is expected to contract by 28.3 million by 2020 having fallen by 8.5 million in 2007.

While pressures of rising demand for skills will be acute, the supply side – represented by demographics and higher education capacity – is going to be strained to deliver sufficient inflow of new skilled knowledge and creativity-enabled workers. Assuming current demographic trends, demand for international students in the OECD will be expected to rise from 6% of total third level student population in the mid-1990s to 30% by 2020, based on our forecasts.

Cities are increasingly competing for internationally mobile and highly diversified workers of the future. For example, between the 1990s and 2020 net international migration flows of highly skilled workers will more than triple from 29.5 million to 98.6 million, according to our forecasts. Majority of these flows will continue to be attracted to Western European and North American economies. However, in a departure from the previous decade, next ten years will see acceleration in the net demand for highly skilled international migrants from the emerging economies of Asia Pacific, India and Latin America. These developments imply that previously taken for granted inflows of talent to the advanced economies are now wide open to competition.

The entire notion of competitiveness will be reshaped by the new growth paradigm. Our research shows that in the near future cities will have to focus their attention on attracting, retaining, creating and enabling people with diversified and high quality skills and knowledge, capable of generating and absorbing creative and technological innovation.

Highly-skilled individual’s location decisions are directly influenced by the quality of core services provided by the cities. And these decisions, in turn, increasingly influence location of FDI. In 2008, according to data for OECD, 69 percent of companies have identified availability of the high quality human capital as a major determinant of their decision to invest in a specific economy. Urban centres will need to change the nature of their core services away from focusing on standardized services aimed at the homogenized populations, toward services that are more citizen-centric: tailored and individualized, green and lean in line with the demands of the internationally mobile highly-skilled employees.

Our research has identified four core services areas that will need to be prioritized for investment with the greatest expected impact on highly skilled, knowledge, creativity and innovation-enabled workers. These are Government Services and Education, Public Safety, Health and Transport.

Given the constraints on fiscal spending, faced by many Governments around the world, including the Irish Exchequer, such investments will have to deliver optimal gains in quality of life while demanding minimal public outlays. Based on our analysis of the best practices around the world, this can be achieved by deploying advanced technologies to understand, predict and intelligently respond to services systems behaviour and demand.

For example, cities like Singapore, Tokyo, Amsterdam, London and Stockholm have been able to successfully leverage real-world data generated by their public transport providers. This allowed not only to optimize the existent city services, but to simultaneously increase both capacity and demand for public transport. Several cities worldwide are currently building new modes of public transport that attempt to seamlessly integrate the concept of mass public transit across various modes of transport while delivering extensive customization of routes and modes.

In Singapore, creation of a seamless, smarter national transport fare system has resulted in $40 million annual savings from reduced congestion on expressways alone, as well as gains in workforce productivity equivalent to more than 5 million man-hours. Singapore’s Land Transport Authority can now optimize routes, schedules and fares based on the insights from the 20 million trip-related transactions generated each day. As the result, usage of mass public transport increased by 14.4% between 1996 and 2007.

Congestion negatively impacts on the quality of life in a city by decreasing personal and business productivity. It also imposes negative externalities on the overall quality of life. The cost of congestion ranges between 1.8% of GDP in Kuala Lumpar to a massive 4.1% in Dublin.

Smarter transport systems can integrate traffic, weather, business and traveller information to provide real time services to users to create more efficient and user-friendly services. A number of cities in Japan are now moving to new models of delivering public transport that aim to bring greater degree of routes flexibility, on-demand capacity and more organic links between daily demand changes, external factors, such as weather and seasonality of demand, and the supply of public transport.

Of course, public transport is just one area of services where the Greater Dublin area and other cities in Ireland will be facing significant competition. Health, education, government services and public safety are also important determinants of the quality of life in the city and thus city’s ability to attract, create, retain and enable the workforce of the future. And we have quite a distance to travel in these terms. If in 2007 Dublin ranked 20^th in the world in terms of overall quality of living the city delivers to its citizens, this year it has slipped to the 26^th place. These rankings do not reflect even poorer quality of services delivered in the commuter belt of the Greater Dublin area.

The core conclusion that emerged from our report is that cities that adopt a pro-active approach to investment in citizen-centric services will position themselves to thrive in the new age of human capital-intensive growth. Those that continue to invest in traditional infrastructure designed for mass population are set to struggle.

Economics 4/7/10: Global PMIs signal some pressures ahead

Based on WSJ blogs info, I pooled together a comparative table for the last three months OECD Purchasing Managers Indices. An interesting dynamics for Ireland, compared to peers and some other countries (24 in total):
Note: relevant competitors are in bold.

An interesting observation on PMI levels:

• In April Ireland ranked 18th in terms of its PMI reading (remember, PMI above 50 signals expansion);
• In May, this rank improved to 15th;
• But in June we slipped to 20th place of 24 countries.

In terms of changes mom in PMI readings, we fared much better, registering:

• 3rd highest gain in mom between April and May;
• falling to 19th rate of change between May and June;
• between April and June we recorded 12th ranked result in terms of changes in PMI
  

Overall, within the sample of 24 countries, it is clear that April to June changes showed 17 countries of 24 posting declines in PMIs, with only Greece, Hungary and South Africa continuing to post contractions in activity (below 50).

Most notable is stellar performance of Switzerland.

Average PMI has declined from 56.1 in April to 53.9 in June, while standard deviation has fallen slightly from 4.4 in April to 4.3 in June. This means Irish PMI drop was broadly in line with the average.

Economics 4/7/10: Burden of the state & tax system changes

Some more insights from the Exchequer figures. Over the last three years, Government budgetary policies have resulted in a dramatic shift of the burden of this state onto the shoulders of ordinary families.

Income tax accounted for 25.05% of tax revenue at the start of 2007, rising to 28.70% by the end of 2007. 2008 Q1 revenues from income tax accounted for 28.07% of the total, rising to 32.31% by year end. In 2009 the corresponding figures were 34.23% and 35.82%. So far this year, Q1 2010 income tax revenue accounted for 36.10% of total revenue. Q2 2010 figure is 35.49% - higher than corresponding Q2 2009 figure of 35.23%. Chart below illustrates:
In year-end terms:
One can (roughly, as an approximation) split taxes into the following three categories: business-related (corporate, excise -

• attributable to business (Corporate & Vat - adjusted for the share of non-household consumption);
• attributable to households (income tax, Vat adjusted for personal consumption share of total expenditure), and
• transactions taxes - Stamps, CGT & CAT

When one realises that less than 50% of those working in the State pay income tax and majority of them barely avail of much of the public services, this really does put into perspective the burden of the state spending on our more productive middle and upper-middle classes.

Economics 4/7/10: Exchequer receipts: not a sign of any recovery

From my previous posts on the Exchequer deficits, you have probably guessed that unlike other economists, especially those from the official commentariate, I am not too fond of comparing current receipts to 'targets' set out by DofF. This aversion to focus on how closely the receipts are running relative to targets is driven by two factors:

1. I don't care for DfoF targets. What matters is how the economy performs in reality, not how closely it resembles someone plans;
2. I don't think that DofF targets have much meaning - real world deficits have two sides to them: receipts and expenditure. In receipts, tax collections signal the extent of economic activity. And changes in receipts year on year also signal future economic capacity. Full stop. Targets are irrelevant here.

So I've done some homework - manually (because DofF is incapable of delivering usable databases) trolling through Exchequer Statements, and compiling my own database of tax receipts. From now, this will form a stable feature of monthly Exchequer Statements analysis.

Here are some startling revelations from the latest results released on Friday.
Income tax receipts are currently running behind all years from 2007 on. This is a clear indication that our income tax policy has collapsed. If in June 2009 income tax receipts were -9.02% below June 2007, by June 2010 this difference has widened to -16.82%. And this is despite (or may be because of) higher taxes imposed in Budgets 2009-2010. Mark my words - should the Government increase income tax rates or shrink income tax deductions in the Budget 2011, this effect will most likely increase once again.

Vat has performed just as poorly so far this year, despite all the parroting going on amongst commentariate about improving retail sales etc. In June last year, Vat receipts were off 23.48% on 2007. This year this difference expanded to -29.63%. And this is despite significant weakening in the Euro and with price wars amongst the retailers. Let me ask Irish banks' economists so eager talking up our consumers' return to the shopping streets.

Corpo tax is doing slightly better so far, but there are timing issues here, plus there is an issue of profits booking by the MNCs - rather spectacular in June 2010. Overall, corporate receipts are subject to a massive uncertainty until November figures come out, so let's wait and see.

Excise taxes are clearly settling into a new equilibrium, way below 2007 and 2008 figures. June 2007-June 2008 the returns on this line were down -26.04%. This year, the decline is -27.97%.

Stamps are next: some spectacular rates of deterioration here. June 2007-June 2009 = -79.72%, to June 2010 = -83.55%.
Capital gains tax - should be booming, according to the 'Green Jersey' squads. After all, allegedly we are doing so well now in terms of equity markets that Ireland is having a booming number of millionaires. Remember that claim? Well, CGT shows none of this 'boom' and, of course, QNA shows continuous deterioration in our investment position. So between June 2007 and June 2009, CGT receipts fell 80.98%, by end of June 2010 they declined 89.10%. Surely, things are booming as we roared out of the recession...
Almost the same story for Capital Acquisition Tax, with this category performance being only slightly better year to date on the back, potentially, of something really strange going on in the Exchequer own capital spending and automatic stabilizers (timing?).

Customs duties are also down, tracing the trajectory of consumption excises.

So let's take a look at the total receipts:
Again, I am failing to see any sort of 'stabilization' in public finances (receipts are running behind 2009 levels), or any significant uplift in economic activity relating to Q1 2010 'exit from the recession'. We apparently had full 6 months of 'recovery' and there's not a blip on the tax receipts radar screen.

So my advice to the 'official IRL economics squad' out there - stop chirping about 'tax heads running close to target'. Look at the actual numbers!