Ireland’s monetary policy is set by the ECB and has had a very significant impact on household income and wealth in Ireland over recent years, as well as a profound effect on the housing market, particularly in relation to house prices and the ownership of the housing stock. Yet little attention is paid to it, in contrast to say Germany where it is heavily criticised and indeed the subject of legal challenge. Similarly, the Central Bank introduced mortgage controls five years ago ,which again has had a material impact not only on housing but on credit growth, the distribution of wealth in Ireland and indeed on the political landscape, begetting policies designed to mitigate the consequences of these monetary and macro prudential decisions.
Let’s start with the controls. The average new mortgage for house purchase peaked in 2008 at €270,000 and then plunged alongside house prices before bottoming in 2012 at €174,000. Since then it has risen steadily, reaching €233,000 last year, which when related to rising incomes and the much lower cost of a mortgage indicates that affordability is much improved and in fact is still better than the long run average.
Mortgage controls are designed to limit household leverage, imposing a LTI limit of 3.5 ( with some exceptions) and the Central Bank acknowledged in 2015 that one might expect this to dampen house price inflation, credit growth and also negatively impact housing supply. We do not know how the market would have developed in the absence of such controls but the Central Bank made a stab at answering in their recent Financial Stability Review , estimating that prices in the period to the first quarter of 2019 would have been around 20% higher, or 4% per annum, with PDH lending substantially higher, by some 40%.The Bank does not show an estimate for housing supply but if prices had been higher completions would presumaly have been stronger, although what is also clear is that the longer term relationship between house prices and supply has shifted since the crash, in that house building has been much weaker in response to the actual price changes observed than experienced in the past.
If housing demand exceeds supply prices and/ or rents will increase, with that split being affected by, inter alia, the growth in income for would be buyers, the cost and availability of credit and the type of buyer in the market. So if mortgage lending would have been higher in the absence of controls then some would-be buyers are forced to rent or live at home if that is an option. This has thrown up the odd situation where the average rent nationally in 2019 was around €1200 per month, while the average monthly payment on a new FTB 25-year mortgage was €1076 i.e. the rental payment could sustain a mortgage of €254,000 instead of the actual FTB average last year of €227,000. Landlords are therefore taking on higher credit risk than banks, and the average LTI for FTBs is actually only 3.1, which may be too low in an economy where the cost of housebuilding is high and where the average rental payment would service a mortgage with an LTI of 3.5 . It also looks very conservative compared to the UK, where the LTI cap is 4.5, with a 15% exception on a rolling twelve month basis rather than a calendar year.Rental growth in the UK has also been much weaker than in Ireland.
The type of buyer has also changed. The introduction of mortgage controls coincided (?) with the ECB’s decision to buy bonds under QE, which alongside negative rates has pushed Government bond yields into negative territory, including Irish debt out to 10 years. That renders Irish residential rentals yields ( which appear to be above 5%) unusually attractive and so we have had an influx of institutional buyers into the market, which was not a feature of previous cycles. Since the end of 2014 institutional buyers have purchased a quarter of new housing according to the CSO data, rising to 33% last year alone, which is then rented, with housebuilders also now more inclined to pre-sell developments to institutional buyers rather than risk waiting to sell to individuals.
QE is designed to boost investment in assets other than bonds and so will push up house prices, but at the same time the Central Bank controls have constrained access to mortgages for households. That not only has implications for owner occupation but also wealth: gross Irish household wealth rose to €947bn in the third quarter of 2019, of which €545bn was in the form of housing, or €412bn net of debt.Wealth in Ireland is therefore disproportionately held in property and so the combination of controls and QE has and will have broader implications for wealth in Ireland and its distribution over time.
As to the future, QE is open-ended at present and the market is not priced for a return to positive ECB rates for years so the yield on bonds is unlikely to rise sharply, thereby maintaining the demand for rental yield. Similarly the Central Bank appears happy with the mortgage controls as they are, albeit showing some concern about the profitability of Irish banks (too low, that is), and if change occurs it may be to move towards a debt service metric- the impact of a fixed LTI limit on mortgage payments when rates are 3% would be be very different if rates were 5%.
A demand shock could change everything ( rents fell by over 20% from 2008 to 2010) as indeed could a supply shock. That might be positive (an upside surprise in terms of house completions) but also negative – an extension of rental controls or a rent freeze would reduce the value of the housing stock and it would be a very unusual economic development if that encouraged more completions.