Is Ireland Finnish Or Japanese?

We all know the story, but what next for Ireland’s residential property market. The past history of boom and bust market recoveries may hold the secret for what’s in store for Ireland.

The Ireland of today has witnessed a dramatic change, and yet we still face enormous uncertainty. If the euro were to unravel it could wreak havoc that would go well beyond issues like our property market. But survival of the currency and Ireland’s place within it is a more likely outcome.

Yet in the midst of this enormous crash, it’s hard to ever imagine the property market functioning normally again. In truth it stopped functioning “normally” long before the peak of the boom. What we see in the property market today is a market that is effectively in stasis.

In 2006, at the peak of the bubble there were nearly 204,000 mortgage transactions. Today, that figure for 2011 is likely to be closer to 14,000, representing a 93% drop in market activity. With the exception of Japan, that would make it the worst property boom and bust on record.

Some people may not be able to see beyond the challenges of the next few years. Many who took out a mortgage where not reckless speculators. They simply wanted to buy a home. And the message back then from those in the know was clear – buying a home was a sound investment. Our property market was built on solid foundations. But it didn’t turn out that way.

According to the ESRI, there are just over 770,000 residential mortgages in Ireland. It is reported that 40% of those mortgages are in negative equity – where their house is worth less than what they owe on it. This equates to around 300,000 residential mortgages in all. And behind each mortgage is an individual, a couple, a family. Of the 770,000 residential mortgages, over 95,000 are currently in arrears or have restructured their loans. This equates to over 1 in every 10 mortgages.

Over four years into the crash the Irish property market remains weak and prices continue to drift downwards. Official government figures collected by the CSO (Central Statistics Office) show that prices have fallen by 43% nationally. Industry insiders claim that they are witnessing price falls that are even greater than official figures. The Greater Dublin area, for example, has seen price drops of around 60%, and in higher priced properties they have experienced 75%-80% drops in asking prices.

Some sceptics however, believe that Estate Agents are exaggerating the falls in an effort to elicit buyers to believe that the bottom has been reached. The reality is that there is no definitive answer because Ireland does not have a national register to track prices.

To understand the price falls though, you must first understand the price rises. House prices across the country rose by 300%. Like everything, certain counties defied this average. In the decade between 1996 and 2006, average house prices rose the most in Dublin. A higher concentration of jobs attracted more people, increasing the demand for housing, which in turn forced prices higher. They soared by 363%. This meant that in 1996 the average price for a home in Dublin rose from €92,000 to €427,000.

A example of a home on Belgrave Square in Dublin sold at auction in 1996 for just under €343,000. Just down the road, a similar home sold for €2.82 million just ten years later. An increase of more than 700%! The top performing areas outside Dublin where those in the commuter belt. People from Dublin who were now priced out of the market bought properties in the likes of Wicklow, Meath, Kildare and Louth.

Property markets have been crashing around the world for decades. Can their experiences tell us anything about our recovery? The good news is that in most cases they always recover. In fact in the distant future we may even return to 2006 levels. In almost all cases the return to the peak is a certainty, the only uncertain element is the length of time it will take to get there.

A typical boom sees average house prices climb for five years with an average rise of 48%. But this boom was no ordinary price cycle. House prices rose in 55 countries for nine years, twice as long as a typical boom, and Ireland was at the forefront. Prices in Ireland rose in real terms by 179%. The closest country to us was the UK, which saw rises of 155%. Spain and France saw increases of just under 110%. And we didn’t just happen to have a property crash. It coincided with a collapse of the country’s banking sector. In countries where this has happened, recovery is harder and more unpredictable.

Finland’s Crash

Finland, in the 1980’s had a housing bubble. House prices rose in real terms by 111%. Like Ireland, the country had boomed from a debt fuelled credit binge, with banks lending exorbitant amounts for property deals. There was a real sense in the Finnish banks that banking was essentially “selling money”. You could walk into a strange bank in the morning, and walk out with the money in your back pocket a few hours later. It was cheap money, and Finns weren’t used to this. And now suddenly the banks found out that everyone wanted to borrow “just a little bit”.

But in 1990, the country was caught in a perfect economic storm. Just like Irish banks eighteen years later, Finnish banks had engaged in a lending binge, and the bubble had burst. To make matters worse, a year later, the Soviet Union collapsed causing Finland’s exports to fall. Construction halved, economic activity fell by 13% and house prices began to tumble. Sound familiar?

Finnish house prices collapsed by nearly 50%, much the same as where we are today. So once the cycle turned the banks were in trouble. The crisis hit ordinary Finns hard. Their experience mirrors ours. Unemployment shot up to nearly 18% in just four years.

For everyone in Finland this was a new experience. Nobody in  Finland had ever imagined an economic collapse on a scale or magnitude like this before. Just like Ireland, the government of day grappled with what to do. They raised taxes and cut spending. Like us, they pumped billions into the banks, and even set-up their own NAMA. But they also did things we simply CANNOT do as members of the Single Currency. The Finnish Markka was devalued by 24%, boosting exports and making Finland a cheaper place to do business.

When exports started to grow, so too did the markets confidence. All of a sudden international credibility returned and banks had better access again to international money markets, which was really the turning point. The Finns were a little lucky too. The mid-1990’s saw a global upturn which saw Finland’s economy recover, which in turn helped kick-start the recovery of the property market. Seven years after the crash, prices rose by 50% within three years. Before that happened though, something else occurred that could be relevant to Ireland’s recovery. Once house prices stopped falling, unlike typical housing recoveries, they didn’t start to rise again. Instead they flat-lined for three years.

If one was to apply the Finnish experience to Ireland, what would Ireland’s recovery look like? Finnish house prices fell for four and a half years, but then flat-lined for another three. That would see Irish house prices hitting the bottom at the end of 2011, and then simply rumbling along without any real gains or losses until 2015, before beginning to rise again.

Finland shows us that countries with a simultaneous property and banking crash can, and do, recover. There is light at the end of the tunnel. But there is a danger for Ireland because the scale of our property and banking collapse is so big. Many believe that our recovery could look more like Japan.

Japan’s Experience

At the height of Japan’s property bubble in the late 1980’s it was home to some of the most expensive land in the world. The Japanese property boom lasted for twenty years, and it was all about city real estate. Property in the six biggest cities went up by 530% in the 1970’s and 1980’s. Japanese banks, among the biggest in the world, had lent too much on property deals and had gambled too much on the stock market.

In 1991 their bubble burst. Prices in Japanese cities began to fall by 60%. When property markets crash, within a few years, recovery usually follows. But in Japan it never quite happened. Japan has had one of the most prolonged property crashes in history. It took fifteen years before the market began to see the shoots of recovery.

As a rich nation, Japan was never a country on the brink as Ireland is today. But its economy went into the doldrums. The period after the crash is referred to by the Japanese as a “lost decade”, because throughout the 1990’s it was very much a period of no growth in Japan and steadily rising unemployment. The property market was one of the biggest losers of the continued economic stagnation. Today across Japan prices are still nowhere near where they were during the peak of the bubble in 1989. House prices in Japan are still 60% lower than they were during the bubble years.

Residential land prices did not start rising until 2006, fifteen years after the crash. If the same scenario were to hold true for Ireland, prices would keep falling until 2022. This is a really bleak scenario but just how likely is it that Ireland’s fate will mirror that of Japan’s. To answer that, one needs to understand the reason it took so long for Japan’s property market to start to recover.

The single biggest reason as the why the crash lasted so long was due to the Japanese governments dithering. Their refusal to face up to facts and its inability to make courageous decisions which called for drastic measures to be taken early and decisively. Addressing the problems took a long time….six years before the government began to address the problems in any real and significant way.

The Japanese government, unlike the Irish government were slow to react to the deepening crisis. It took seven years before public money was used to shore up the banks, issue a blanket guarantee on bank deposits and Japan’s NAMA type agency to buy bad loans. The authorities were still sending in teams to assess how bad the bank loans were twelve years after the original crisis.

The Irish government may not have been as fast as we would have liked to face up to our problems, but we have responded much quicker than Japan did. We had to. We simply could not afford NOT to. Ironically the speed with which we’ve been forced to deal with the ensuing crisis will be crucial in ruling out the possibility of a Japan style fifteen year property slump.

Everything in the Japanese crash was repairable, but it first required facing up to harsh realities. Four years on with our own crisis and it’s hard to suggest that we’re not facing up to it. That separates us from a Japanese fate and brings us closer to a swifter Finnish style recovery.

The same perhaps cannot be said of Greece, who’s refusal to implement the harsh measures required to stop the haemorrhaging of cash from her economy and bring about stabilisation may result in them falling into a Japanese style stagnant recovery.

But the recovery in Ireland won’t benefit everyone in equal measure. Given the overbuilding of homes and apartments in the more rural areas of the country, coincided with the lack of jobs, and hence demand, in those same areas, the recovery will be a lot slower. Rather the more urban areas, such as those of Dublin, Cork and Galway, along with the surrounding commuter belts of those cities, will see a faster recovery. But in those areas, it will most likely be limited to owners of larger 2-3 bedroom homes and apartments rather those who purchased single bedroom apartments, given the demand constraints for that particular market.

Whatever the outcome, Ireland’s economic recovery is set in motion. The only choppy waters seem to stem from the fact that we’re tied inexorably to the euro, and the demands of Brussels, the ECB and the Franco-German governments. Given our largest trading partners are across the waters in the UK and US, it begs the question of whether Ireland should continue its path and remain steadfast as a member of the euro, or elect to exit the Single Currency and either adopt the old Punt, or perhaps even the Pound Sterling as these would enable us to revalue our currency (in the case of the Punt) or continue with our closest trading partners (in the case of the Pound) and eliminate the overvalued euro as a barrier to competition, kick-starting our exports once again.

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