FOR some reason, the issue of debt forgiveness, which has been discussed for years, seems to be back on the table as if it is something new. It is not new. Debt forgiveness, debt write-offs, debt restructuring — whatever term you want to use — always happens after a credit-driven growth mirage. The reason is simple. In the boom, too much credit was given to people who had no prospect of paying the stuff back and now they can’t pay it back. So, as the saying goes, “can’t pay, won’t pay”.
In order to think about this, let us consider a person who still has a job, but who is in the generation that were unlucky enough to come into the housing market in the boom. We are talking broadly about people who were born in the mid-1970s to mid-1980s — 600,000 people.
If you are one of them and borrowed lots of money to buy a house in the years up to 2008, how are you going to pay it all back on the same terms? Now the house is worth possibly 50pc less than you paid and as there is no market, because the very banks that lent you the money are bust and have no new money to lend to anyone, so this 50pc drop might be simply notional and the actual drop may be higher.
Your wealth has been decimated and there is no prospect of it rising again in the next 10 years. Meanwhile, your income has fallen because taxes have not only risen but are due to rise again and again. Worse still, your taxes have risen to bail out the very banks that gave you the ludicrous loan in the first place.
Therefore, you have no wealth, just an enormous debt and interest rates are likely to rise rather than fall in the years ahead (according to the ECB). Your income has fallen and your taxes, direct and indirect have risen. The only way you can pay the mortgage is if you spend less on something else. So you stop buying things you used to buy.
But you are not alone. There are thousands of people in your position, buying less in order to pay off the mortgage, which is now enormous relative to the value of the house. Therefore, aggregate demand in the economy falls like a stone.
This obviously affects the rate at which the Government can raise revenue because if people are not spending, there is a taxation problem.
What does the State do when faced with this and the strict budget targets stipulated by the IMF/EU? It needs to raise taxes somewhere else or cut spending somewhere else. So it makes large cuts in spending, which again reduces total demand in the economy, making the demand problem even worse.
In normal economics, this all should be no problem. If some people spend less and save more because they spent too much in the past and saved too little, the money they now save will be used by other people who will borrow the saving to spend on new investment.
This smooth transfer of cash from one section of society to the next presupposes that the banking system is functioning. But in Ireland, it is not.
The banks are now largely safe-deposit boxes for the ECB. This gradual disappearance of money from the system is called “deleveraging”.
The banks, having blown the balance sheet of the country by their recklessness, are no longer trusted by anybody.
But now something odd that might be called “the law of unintended consequences” occurs. In order to make sure that they don’t go mad again, the new regulator raises the amount of capital the banks need to discipline them. The banks now have to keep much more capital on their books. All the while, the banks have also to pay back the money they lent because Irish bankers ran out of our savings in 2005 and started to borrow to keep their bonuses.
Now we have come full circle; whereas we had too little regulation in the boom, we might have too much now.
Clearly, it is human nature for the regulator to demand higher standards from the banks, but at this stage in the cycle — with people saving not spending — tighter regulation makes the overall situation worse. This process of much tighter regulation reduces the banks’ willingness to lend.
There is an added reason why, arguably, generally tighter regulation at this stage in the cycle could be a retrograde step.
If the regulation is seen as too tight because the old banks screwed up, this very regulation may repel new banks from coming into the game. What Ireland needs now is not a few equity investors in Bank of Ireland, it needs a new balance sheet, new capital and a new source of financing. This can only come from fresh capital, which can only come from a new bank or banks. But if there is too much regulation, these new banks might stay away.
ANOTHER aspect of the deleveraging process is that the old banks hold on to deposits like they are gold. Deposits are the cheapest and most stable form of capital a bank has and so now they are king. All our banks need to attract more deposits. This leads to a deposit war as they push up deposit rates to get cash. Ultimately, they don’t lend.
All the above basic economics means that the “normal” laws of economics don’t apply in Ireland. The banking bottleneck is preventing saving being recycled. Therefore, the more the generation who got shafted in the boom pay back their mortgages — despite their balance sheet being decimated — the less money they have to spend on something else and the more the tax base shrinks. If the money they save gets stuck in the banks and doesn’t find its way to people who would like to use this money profitably, the economy will shrink more.
Thus, coming back to debt forgiveness, restructuring or whatever you are having yourself, the arguments are less to do with morality, moral hazard or bailing out the profligate and more to do with how demand and employment are generated.
For many these issues are contentious and some might say, why should this generation get special treatment? But bear in mind that big policy changes always have a generational aspect to them because of the way wealth is created and at what stage in life it is created. For example, the generation older than me received a massive once-off transfer of wealth when we joined the euro. They had saved in the old, soft currency, the punt, which was a “serial devaluer”, yet, as if by magic, they got all those savings in a “weak” currency redenominated in the “hard” euro currency. Did we hear much from them about the “fairness” of this once-off windfall?
Debt restructuring is going to happen; it is just a matter of when — not because it is right or wrong, but because that’s how the economy works.
Join (Irish Homeowners Unite) Face Book web page
Hyperion.
In the mid-to-late 1970 there was substantial overlending to farmers by AIB and Bank of Ireland and in the late 1970s a debt forgiveness programme was introduced and implemented with IFA and government support. There was no talk about moral hazard back then just a pragmatic solution to the farmers’ debt problems at the time. Debt forgiveness in Ireland is not new! Check it out.
That’s all fine and dandy, but debt foregiveness is currently in danger of getting the ‘free ride’ status..I believe that a structure of debt foregiveness comes with some binding advice from e.g. Budgeting services..I believe that people deserve a second chance; and with debt forgiveness changes to bankruptcy laws become inevitable.. But before we start the coin rolling we should know how to control this as the current Irish system is very open to fraud..and I’m done paying for that! …my recommendation would be that people under debt foregiveness would have budgetary measures imposed on them and can we also… Read more »
Great article David. I’m of that generation and although I did not buy property, I have no wish to see my peers continue to suffer the way they currently are. Therefore, we need to deal with this post credit binge problem sympathetically. Now, there may well be anecdotal evidence of parents helping out their children stuck in negative equity, but not everyone has parents with deep pockets. In summary, we need wealth taxes and new taxes on economic rents, not new taxes on low and middle income earners. And yes, we need a stimulus to reduce unemployment, our single most… Read more »
David. I am glad to see you are advocating debt forgiveness and supporting it with sound economic reasons rather than emotional arguments.I think families ( as these mortgage holders mostly have children) have to be given a second chance.
I did not understand how the older generation benefitted wiith euro changeover?
Jubilee is a very old concept and, as you say, nothing new.
http://www.yesmagazine.org/issues/living-economies/532
http://www.gods-kingdom-ministries.org/books/creations/index.cfm
Impressive article.. I have just seen the film Inside Job and was numb at the greed. This film would certainly make you think about hurling your youth into the grave to pay a mortgage.. [Inside Job (2010) is a documentary film about the late-2000s financial crisis directed by Charles H. Ferguson. The film was screened at the 2010 Cannes Film Festival in May and won the 2010 Academy Award for Best Documentary Feature. Ferguson has described the film as being about “the systemic corruption of the United States by the financial services industry and the consequences of that systemic corruption.… Read more »
Great article stating some home truths. But the only way debt restructuring will come about is with leaving EMU.
Its possible through some Currency Board we need to set up, that we could peg the puntEuro and fix its value against the Euro if and only if the euro remains following present upheavals.
We are heading towards September Titanic icebergs. The ECB cannot provide unlimited funding to the peripherals.
The following is an extremely interesting analysis of reliance of European banks on their external, international balance sheets, exposing them to dollar credit risk.
http://www.zerohedge.com/article/how-federal-reserve-bailed-out-world
David, If we are to award *debt forgiveness* to people I say award it to people – who only own one home – who are NOT renting out properties for rent – who did not enter into the property market to ATM property for a profit – who purchased a mortgage strictly to buy a house to live in it and not to profit out of it by buying into a bubble market knock off. To award debt forgiveness beyond above conditions amounts to providing support to an economy which is rigged and run by insiders and facilitating re-setting the… Read more »
I’ve been an avid reader of the various comments that have been made by the different contributors along with all of the articles written by the webmaster himself for quite some time now and I have to say that the majority of those articles have been succinct and to the point, but I’m sorry to say this latest offering has to ‘take the biscuit’ in my book. My reason for stating that boils down to the fact that I bought my house back in August 1988 and now sooner had I paid the first instalment of my mortgage the interest… Read more »
I dont agree with debt forgiveness.
I paid my taxes for the banks to be bailed out.
Now Ive to pay more tax for other peoples houses?
Total BS.
What about an equity swap instead.
http://www.boards.ie/vbulletin/showthread.php?p=73007264
David McWilliams, you’re as much a populist celebrity as an economist.
Are you running for president yet?
I seriously disagree with this; if people are allowed to renege on their commitments, then what sort of message does that give them going forwards? “Don’t worry – borrow borrow borrow, live beyond your means and sure no hassles, you won’t have to pay it back”. They’ll be pissing themselves laughing at more prudent folk like me (born in ’77, never bought a house during the bubble since I was very sure that there would be a crash), and will repeat the same mistakes again.
Evening, Just to clarify. This article is a general piece on how demand and employment are generated. It is obvious some sort of debt “deal” will have to be very targeted, so as not to, rightly, anger many other taxpayers. Why not isolate the actual figure needed (various estimates from €5 to 10 billion) and get the glorious bondholders to pay for it? Just an idea. If everyone in Ireland is being asked to make sacrifices, why not the most obvious group, the creditors? There is no silver bullet here but just the ordinary course of economic policy. If you… Read more »
Im really not sure about debt forgiveness until I see the small print. Not everyone in the generation David talks about went nuts. Should the state transfer money to these people who will now enjoy in many cases a sizeable home while others are left in squalor? Many rented places are in poor condition. Many home owners didnt buy in the ideal place because they didnt want to go over board. Are they fools? Many bought in rough areas and make payments because it was cheaper. Not ideal area but reasonable price. Unless this forgiveness involves an equity stake by… Read more »
Rivals the great offer from Irish millionaires and billionaires, oh wait, there wasn’t one…………
France’s rich keen to pay more tax as PM Fillon announces ‘rigour package’Sixteen wealthy French citizens have signed a petition
http://www.guardian.co.uk/world/2011/aug/24/wealthiest-french-citizens-ask-to-pay-more-tax
Why do almost all religions, Christians, Muslim & Jewish, believe in a dooms day? And not just religions, but pagan philosopher’s like Plato believed in a final judgement of the soul. People naturally desire justice and fairness. We live in a world where it would appear that often, good people lose out, while the immoral finish first. And where people who pay their debts are out-manoeuvered by those who don’t. It helps to make sense of this if there were to be some unavoidable judgement, some celestial court that punishes wrongs, rewards rights, and cannot be escaped. If we believe… Read more »
EU and American monetary policy aided by Irish financial and political establishment gombeenism have all added to the problems not just in Ireland but throughout the EU and Euro Currency area.Light touch regulation espoused by 1980’s Thatcher and Regan and markets find their own level mantra was the clarion call that ushered in easy money to various parts of europe that if media was to be believed and appears it was that Ireland was the EURO poster boy of the benefits of EURO membership.Banks in other parts of the world of similar size to Ireland 3 main Irish banks had… Read more »
I agree we have to forgive debt when the debtor simply cant pay but we need a proper debate on how to do it in fair way. We have stuffed the banks with money, banks that were insolvent and who should have been put into examinership or receivership. In the real world the staff would have been laid off, costs slashed and brought under control before any new investor put one cent back into these zombies. But no we dont do that. Instead now we have well capitalised banks who will now start to make their staff ( who should… Read more »
Nobody put a gun to these guys heads and made them buy an overvalued house. They were in it for the upside and lemming-like all jumped in the property cart.
So why should Joe Public pay for their greed and stupidity ?
Dwalsh, You say…. The activity of “certain interested parties” you refer to is real capitalism in acion; keeping “market dynamics in a state of dysfunction” to profit by it… dysfunction is the actuality of capitalist markets… especially financial markets… played out in cycles of boom and bust… hence the illusion of goal posts… there are none… except in the textbook myths of free market economists. In my opinion. I say… The *certain interested parties* is NOT real capitalism. Real capitalism is free market functionality according to market efficiency and allocation. This quite evidently is NOT taking place in the western… Read more »
Nice article. You’ve identified an economic problem – lack of spending and suggested a solution – debt restructuring (forgiveness). Without getting into the “who should be forgiven?” debate can I question whether spending would be the natural consequence of the solution? In Australia where I live, the Reserve (Central) Bank keeps citing declines in retail spending each month. I don’t think there are any parallels with Ireland as regards unemployment and mortgage stress. General consensus is that the resources boom is continuing. But people are just spending less. Perhaps we have reached “Peak Consumption”. I would suggest that many families… Read more »
I’ve blogged on this and posted before on David’s last article, its a humanitarian approach to the issue of debt forgiveness and a call to set up a state sponsored NAMA BEAG. Comes with caveat the banks and their government proxies don’t wish to hand control of debt forgiveness away from inquisitorial banks: “Here is the outline of some suggestions to relieve the burden on families and on the state of mortgage debt arrears: 1. Reform of the bankruptcy laws in this country to be brought in line with best practice in UK and US. The homeowner gets to hand… Read more »
http://www.zerohedge.com/article/how-federal-reserve-bailed-out-world How the Federal Reserve bankrolled the rest of the world including the ECB with half a trillion dollars. If you havn’t time to read the above a couple of times, have a look at the short video at the outset. Alan Grayson Rep from Florida interviews extremely nervous, defensive and shifty Ben Bernanke Federal Reserve Chairman. Note the above is debt yielding interest for the Fed. Note also the effect of the above on floating currency fluctuations. Max Keiser or DmcW would much better than I be able to spot the scam going on here. As far as I… Read more »
With 100,000 people leaving the education system each yr, the situation is hopeless.Even the USA can’t create more than 1.5 million jobs per annum ! We still subsidise large families ! Land of the skint Mick.Only 60,000 out of work in NI !
I like the pionts by wills and colm on who and how for debtforgiveness. We need 1. Proper bankruptcy laws and non recourse mortages for the future, its not that complicated we could basically copy most U.S. states for that. 2. Debt forgiveness involving some sort of debt/equity swap for First time buyers owner occupiers who bought in a certain period and who simply can’t pay. These people would have to be provided with social housing anyway if thrown out so taxpayers are not funding so much. There could be a special court set up to deal with those cases.… Read more »
New phrase “collateral”.
http://www.marketoracle.co.uk/Article30083.html
What will the PIGIS provide as collateral ?
More specifically, what are the implications for Ireland ? More dilution of sovereignty.
David, “Nobel Prize Winners” meeting in Germany don’t see a way out of it! Your friend Stiglitz maintains that the Euro has no future! And if instead of doing what Constantin Gurdgiev describe as, we seated on our hands doing nothing, while we wait for the axe of the next budget to fall. What about doing something bold? . What about a Public Declaration signed by few prestigious economic annalists, the more the merry, with five to ten points of concrete proposals, for the common good of society. And against the wishes of speculative economic mercenaries, who want to play… Read more »
So people who have been struggling to make ends meet will suddenly start splashing the cash and give us a consume boom once they get debt relief? Sounds a lot like Brian Lenihan’s notion that NAMA would get the banks lending again! How about putting a few figures to back up your plans David – a cost-benefit analysis showing what growth debt forgiveness would generate as opposed to a focussed €6bn investment in jobs, growth and r&d initiatives would be worth seeing. Or will it be like your bank guarantee proposal where we get signed up and only find out… Read more »
@DJR,
Totally agree with your concern that taxpayers should end up footing the bill.
Sorry if I didn’t make this clear. My plan getgo only occurs as part of a comprehensive debt restructuring default based on the principle of ‘ability to pay’.
This inevitably means the burden should fall on banks and bondholders, not taxpayers.
With respect, it may benefit some readers to more closely examine the argument here. Although our host has in the past suggested forgiveness be adopted as policy, in this particular case it seems that he is suggesting that it is going to happen, whether we like it or not, on the basis that the money isn’t there and its not going to magically reappear any time soon. Surely all notions of making the bondholders, banks etc pay are largely academic at this point as our largest creditor is the ECB? So it seems to me that the debts of individuals… Read more »
Case Study of Debt Forgiveness in Ireland.
http://www.friendsoftheirishenvironment.net/paperstoday/index.php?action=view&id=535
Era – 1980s.
Parties – Farmers v Irish Banks (AIB & BOI)
Agreement – 10% Forgiveness.
Legacy – Very Rosy for Farmers.
“The amount written off varied, but it was never below 10%. Each case threw up complex negotiations, traumatic for the farmers. But invariably, within six months, they would appreciate what was done, as they weight lifted off their shoulders, recalls Tom Clinton.”
I agree that debt forgiveness is what’s needed to heal the economy. However, the “morality”, “moral hazard” and “bailing out the profligate” cannot be ignored.
What’s your plan?
So we’re going to bail out a bunch of degenerate, gambling credit junkies, how nice. They need more money after all, they deserve a break and we need them to do what they do best; buying shit they can’t afford with money they don’t have so that they can stimulate the economy.
Colm,
You say….
‘Also speculators were scammed by the banks as well.’
I say, in your magical thinking perhaps.
Speculators are not a bunch of yams.
Speculators had the gumption and know how to go find property, do the paper work, file the taxes and see through the deals.
Thus, I find that statement lost in space.
NAMA for bankers.
NAMA for developers.
NAMA for Mom n Pop property investors.
Stinks too high heaven.
Rotten, insider wealth of nation robbery.
Hands up on here who have vested economic interest in playing the property market.
Bernie Madoff and Nicky
http://www.youtube.com/watch?v=auSfaavHDXQ
How Wall Street makes money through risk taking!
What I am saying is incredibly simple.
NAMA for bankers.
NAMA for developers,
And now……..in the shadows been rolled out…….NAMA for Mom and Pop investors.
And, it all fits.
An insider class from top down gaming the system
https://market.android.com/search?q=economie&c=apps&price=1&safe=1&device=g27d784e03eeb7c3b&so=1
I’ve uploaded an Android App to the android market available for free here:
https://market.android.com/search?q=economie&c=apps&price=1&safe=1&device=g27d784e03eeb7c3b&so=1
Its a Beta test experimental ver 001, so be kind:)
Its android and installs on android HTC phones and later for Balckberry and IOS.
Users can email me with suggestions for further development.
Basically it has a twitter app that allows you to search recent tweets on phrases of your choice eg on economics, also links to rss feeds with links to economics sites in Ireland and internationally, and runs a basic video app.
But its under development:)
Wills We probably wont agree…I agree with you on that…but I’ll have another go at it anyway. Real capitalism is the action of real capitalists in a real market. Effective capitalists will look to every means to increase their market advantage over competitors and maximise profits. Indeed this is a central principle of capitalism. CEOs are employed explicitly on this principle and rewarded accordingly. This principle means that capitalist will sail as close to the wind of immorality and criminality as they can get away with. And if they have a lot of power and influence, as global financial and… Read more »
Economics is a body of knowledge but the economy is a machine .Wills calls it the market . “Cognitive dissonance is an uncomfortable feeling caused by holding conflicting ideas simultaneously. The theory of cognitive dissonance proposes that people have a motivational drive to reduce dissonance. They do this by changing their attitudes, beliefs, and actions. Dissonance is also reduced by justifying, blaming, and denying.” The latter sorts of responses are dysfunctional. Such thinking ran rampant among free market economists who simply could not deal with the fact that their beloved free market had gone so badly awry. And so Deco… Read more »
Also Wills may I say the line you are pushing now is a ‘moral hazard’ line…the Mom and Pop investors.
I dont think anyone is suggesting bailouts for investment properties. The social issue here is families and children and ‘homes’…not investment assets.
Time for a revolution? http://www.youtube.com/watch?v=s3u9LB32YYM&feature=feedu
NAMA for bankers.
NAMA for developers.
NAMA for Mom and Pop property players.
An insider class top down.
http://www.larouchepac.com/
Note outside the property bubble, rich farmers with Euro grants had a great year last year with exports surging 20%, interesting data on their grants from 2008
http://www.independent.ie/national-news/farmers-have-nothing-to-hide-as-details-of-eu-grants-go-on-net-1486506.html
ECB liquidity lending provided for the banks, public service protected by Croke Park, agriculture and multi national sector protected by salaried and well pensioned bank/financial services Lambert wanderly wagon politicos….
Not that he hasn’t been wrong before now Greenspan also believes the EMU is about to break up:
http://online.wsj.com/article/BT-CO-20110823-711383.html
“”The general feeling out there is of a lull before the storm,” Greenspan said.”
More revelations concerning the level of stupidity that emerged in the “feel good factor” took hold, and led people wildly astray.
http://www.independent.ie/business/irish/morgan-kelly-predicts-further-unforseen-losses-for-banks-2858749.html
It is too much to expect the taxpayer to pay up for certain forms of madness, like high range, expensive housing for people who were loaded up with hyper-confidence. (Just wondering, were some of these “professionals” on drugs or something, given the decisions that were made ?).
Decos Eulogy to a moking bird Much of what is missing from the current debate over economic policy is a fundamental question over what our nation’s economy most closely resembles – a sophisticated machine that can be fine tuned by special people with IQ’s several standard deviations greater than us common folk, or an ecosystem that selects the most relatively fit participants for success, while punishing poor decision makers with lower standards of living. If our economy resembles a machine, then the Keynesians in Washington are correct that managed health care; near $1 trillion stimulus packages; targeted subsidies and bailouts;… Read more »