Ireland now a nation of savers, not borrowers

Much has changed in Ireland over the past decade and one of the most striking in economic terms is the  tranformation in Irish households from borrowers to savers although much of the coverage in the media  still concentrates on credit and the cost of new loans and so does not reflect this new reality. Ireland has morphed into Germany and we are now closer to Berlin than Boston.

Irish household borrowing peaked over ten years ago, in mid 2008, at €204bn, and most of this debt had been used to purchase residential property , which of course at the time had soared in value over a long period, leaving households with net worth of over €700bn. By 2012 the latter figure had collapsed to under €450bn, largely reflecting the 50% fall in house prices, but debt was also declining, given little or no new borrowing and the ongoing repayment of mortgages.

Indeed, household debt is still falling, at least on the figures to the third quarter of 2018 as published by the Central Bank, to €137bn , a reduction of €67bn from the peak.  Household income is growing strongly again and so the debt/ income ratio, a standard measure of the debt burden , is now down at 126% , a level last seen in 2003. Rising house prices and  the recovery in equity markets in recent years has boosted wealth, leaving net worth well above the previous peak, at €769bn.

Interest rates are historically low ( the average rate on new  mortgage loans is around 3%)  and wealth is at record levels so one might imagine that households would be reducing savings and increasing debt but that is not the case. New mortgage lending  has certainly picked up, reaching €8.7bn in 2018 as a whole, but that was largely offset by redemptions, leaving the net change in mortgage credit  on the balance sheet of Irish  banks at only €1.1bn. A rise nonetheless, but that is not inconsistent with the overall data on household debt, as that relates to the third quarter and includes money owed on mortgages no longer on the balance sheet of the original lender.

Central Bank controls now limit the degree of leverage allowed in the mortgage market and the relatively limited supply of new housing is also a contraint  so we are unlikely to see an explosion in household borrowing, even in an environment with less economic uncertainty. However, the savings side of the balance sheet is also witnessing a profound change, with a huge increase in the amount of wealth held in cash and deposits; the q3 figure was € 143bn , a €15bn increase in the past three years. So Irish households now hold more in cash and deposits than they owe in outstanding loans (€137bn), quite a change,  and this  has also had a major effect on Irish headquarterd banks, as they are now in effect Credit Unions, with loans amounting to only 93% of total deposits.

The returns on these deposits are also extraordinarily low of course, amounting to an average of 0.29% for outstanding deposits (the euro average is 0.3%) and a meagre 0.04% on new term deposits ( euro average 0.3%). Monetary policy is based on the notion that the economy responds to a change in interest rates, and that a substantial decline in rates will boost credit growth and encourage savers to spend and borrow. That certainly has not been the case in Ireland and so it is not clear what the impact of higher rates will be on what is now a net savings economy, if and when that day arrives. As it stands that  day seems far off, with the market not priced for an ECB rate rise till around June 2020, although that can and will change with the flow of economic events.

Irish Household wealth climbs and debt falls

Irish household debt (defined as outstanding borrowings from financial institutions) peaked in late 2008 at €204bn and has been falling since, declining to  just under €150bn in the fourth quarter of 2015, according to the Central Bank, the lowest in a decade. The debt burden (debt relative to household disposable income)  has also declined significantly, to 155% from a peak of 215%,  although still leaving the Irish ratio well above the euro area average ( which is under 100%) and the third highest in the European Union.

No one can be certain at what point the deleveraging will stop but one factor which may impact is that Household wealth continues to recover, with the result that Household net worth has risen from a cycle low of €440bn to €626bn, the highest since early 2009. The upturn in wealth  was initially driven by rising equity markets ( boosting pension fund reserves) but over the last few years the recovery in residential property prices has been the made driver. Indeed, financial wealth actually fell in the latter half of 2015 but was offset by further housing gains.

Last year also saw a substantial rise in the (gross)  Household saving ratio, to 9.5% from 5% in 2014. On the face of  it then, Irish households are rebuilding savings, despite the meagre returns on deposits, and regardless  of a significant improvement in their financial position, at least in the aggregate, are still more comfortable repaying debt rather than borrowing.

Irish household wealth is rising but debt repayment ongoing

Mario Draghi may be doing his best to encourage European consumers to borrow and spend but the evidence in Ireland still points to ongoing deleveraging, despite rising household wealth. The debt burden is now falling steadily, however, in contrast to the situation over recent years, but is still extremely high by international standards and it is anyone’s guess when the deleveraging process will come to a close.

The Irish Central bank publishes financial accounts data which tracks each sector’s assets and liabilities and the figures for the first quarter have just been released. Loans to households fell by €1.9bn in q1, bringing the total decline since the peak in mid-2008 to over €39bn. That deleveraging has dwarfed any new lending, which explains why the outstanding amount of personal credit is still falling despite a pick up in new loans. The absolute debt figure is now back to the level last seen in mid-2006.

Of more significance is the debt burden, which is generally expressed relative to disposable income. On that metric the burden peaked at 218% in late 2009 but did not fall materially for some time after that despite deleveraging because household income, the denominator, was also falling, reflecting rising unemployment, falling wages and an increase in the tax burden. Income finally stabilized  in 2012, ( although it is still volatile even on the four quarter total used by the Central Bank ) and has started to inch higher, so the debt ratio has started to fall at a steady clip, declining to 182% in the first quarter of 2014 from 185% in the previous quarter and 198% a year earlier. The household debt burden is now also back at 2006 levels, although a long way above the 133% recorded a decade ago.

Households are reducing their liabilities but their financial assets are climbing, and indeed have been rising for the past five years, largely reflecting growth in the value of assets held in pension and insurance funds. Household’s financial assets amounted to €339bn in q1, leaving net financial worth of €165bn, a record, and some €100bn above that recorded at the nadir of the financial crash.

Most Irish household wealth is in the form of housing, however, and when that is added we arrive at a  total net worth figure of €509bn. The housing component actually fell in the quarter ( national house prices declined in q1) and wealth  is still some €200bn below the peak but it has recovered by €50bn over the past year.

House prices rose again in q2 so that alongside the pick up in house building ( up an annual 37% in h1) will have boosted wealth  in recent months. The data on bank lending implies that debt repayment has remained a feature as well so the net household wealth figure will probably record a further rise in q2. Rising wealth is generally seen as positive for consumer spending but we have never seen the pace of deleveraging evident in Ireland of late (households have been net lenders rather than borrowers for over five years now) and we do not know how long that will continue to dampen personal consumption.