Deflationary food for thought

Apologies for the gap in posts, normal service will resume next week when the new site is launched! In the meantime, I’ll present some food for thought on Irish inflation. It’s become an accepted ‘stylized fact’ that prices in a modern economy keep on rising and on average that they rise slowly and steadily: slow inflation/disinflation good, rapid inflation/deflation bad. Now that Ireland is slipping/marching/dandering into deflation (prices for the first quarter of 2009 were 3.1% lower than the 2008 average), no harm having a closer look at prices and how they trend.

Looking at Irish prices over the past thirty years, here are some things that surprised me:

  • Prices for furniture and household equipment have fallen each and every year since 2003 – that’s a seven year deflationary spiral (presumably quality-driven, as TVs and computers get cheaper and better) that no-one’s lost any sleep over.
  • Over the last twenty years, the typical (i.e. median) year saw a 3% fall in the prices of clothing and footwear. That particular sector is on a 15-year running streak of falling prices. Clothes prices are at the same level now as they were in 1980!
  • Prices for communication have fallen in 13 of the last 30 years. The typical fall is 0.2%. Communications prices are at levels similar to those seen in 1983!
  • Every commodity group bar three (there are twelve in total) has seen prices fall at some point in the last 30 years. Those three are alcohol and tobacco (prices are largely determined here by taxes the governments put on them), tourism and healthcare. (Prices for recreation and culture are only falling now, -0.3%.)
  • These falls in prices are getting more common over time. There were only 4 instances of falling prices across the 12 groups in the 1980s, compared to 15 in the 1990s and 25 between 2000 and 2008.
  • There will more than likely be a further 8 instances of falling prices this year – the four exceptions being alcohol/tobacco, health, education and miscellaneous.

The graph below shows the typical (median) rate of change in prices in a particular set of goods since 1990. It’s clear that some sort of gradual general increase in prices across the board is not the norm. Prices vary by sector and are at first glance very much under the influence of policy, as well as other factors such as competition and technology, and it’s probaby worthwhile that this ability to influence prices is incorporated a little more into policy debate, particular when looking at those sectors where costs continue to rise.

Typical change in prices, by sector, 1990-2009

Typical change in prices, by sector, 1990-2009

Five years, six property markets, mixed fortunes

Last week, there was a brief discussion on thepropertypin of an interesting piece of economic history – in the 60 years following their construction in the late 1780s and early 1790s, the Georgian houses of Mountjoy Square fell in value by almost 94%. By comparison, nominal wages fell about 40%-50% during the same period, while the price of food – if bread is anything to go by – stayed largely the same (8 pence for a loaf of bread in the 1790s and in 1848). While I can’t claim to speak for anyone else reading, I would imagine the general perception was: “So property prices can adjust downward by percentages scarily close to 100% – but it probably takes a unique set of circumstances (Act of Union and all that).”

Yesterday, however, I read on Carpe Diem about the latest property price statistics from Detroit. Houses in Detroit are selling for an average of $11,500 at the moment, down an astonishing 88% from their peak values. That translates into a monthly mortgage payment of $50! And this happened not in 60 years of steady economic decline but in less than five years.

It got me thinking about Ireland’s property market in a global context, so I decided to do a little comparison of 2005-2009 for a smattering of cities. The cities were chosen in no particular way other than to give some global coverage, hence two Asian and one American cities, as well as two Western European and an Eastern European city. The figures refer to the start of the year concerned, with Jan 2005 set at 100 for all cities.

Property prices in six cities around the world, Jan 2005-Jan 2009

Property prices in six cities around the world, Jan 2005-Jan 2009

It was a slight surprise to see that, of the cities shown, none apart from Detroit had yet fallen below their Jan 2005 levels by the start of 2009. Indeed, some cities almost 50% above their 2005 levels. Dublin was closest – and more than likely has already fallen back to mid-2004 levels since the start of the year. Tallinn seems to be like an excess version of Dublin – rising and now falling faster. For Singapore and Hong Kong, 2007 seems to have been easily the craziest year, but the correction in 2008 was nowhere near as large. Meanwhile, Detroit props them all up.

For a view on how much more of a correction is needed for five economies, including the US, Ireland and Spain, you can have a look at property yields over the medium term here.

How many mortgage-holders are faced with unemployment?

A couple of weeks ago, I discussed the likely extent of the problem of negative equity and homes worth less than when they were bought. This had led to a rich vein of suggested blog posts as extensions, including last week’s look at which counties have suffered most from “unexpected” unemployment since the start of the recession.

That post was a first step towards estimating how many households are faced with both unemployment and negative equity. Today’s post is an intermediate step: how many mortgage-holders are unemployed? How does this vary across counties? And what would it look like if the Live Register were to hit 500,000, as some have suggested it might?

There are about 1.7 million households in the country – almost 600,000 were mortgage-holders in the Census of 2006 and they have been joined by another 90,000 or so first-time buyers since then. (Landlords and buy-to-let investors are of course another issue, but I’ll leave them out for the moment.) At the same time, since the Census, the number on the Live Register has increased from 155,000 to 385,000, meaning there are about 230,000 “unexpected unemployed” around the country, many of whom would have bought property at some point over the last decade or two assuming a stable employment situation.

Working out how many of those two groups intersect is not a precise science. Given the broad nature of the economic downturn in Ireland, I have assumed that unemployment has been indiscriminate across working households, i.e. of the 230,000 new unemployed, 55% are in homes with a mortgage, the same ratio in the broader labour force. The map below gives the approximate percentage of households with a mortgage where one person has become unemployed since the recession started. The national average is about 7% of households with a mortgage (or one in fifteen) are currently faced with unemployment.

Unemployment among mortgage-holders in Ireland by county

Unemployment among mortgage-holders in Ireland by county

It might be useful to walk through one county to explain in more detail. In Louth, where there are 44,000 households, about 14,000 of them are more than likely households with retired (and mortgage-free) inhabitants. Of the remaining 30,000 households, just under 20,000 are owner-occupiers with mortgages. At the same time, almost 9,000 people have been added to the number of unemployed people in Louth in the last two years. Assuming that the spread of unemployment was not related to home ownership status, that would mean that 60% of the new unemployed – or just over 5,000 people – are mortgage-holders. If those figures are at least in the right ballpark, that means that one in eight households with a mortgage in Louth is dealing with unemployment.

If you go to the original Manyeyes visualization, you can also look at the 2010 scenario of 500,000 on the Live Register, which assumes that the future increase in unemployment is distributed the same way the increase in the last 24 months has been. Because of that assumption, the regional dynamics don’t change – Leinster is still clearly worst affected – but the national headline naturally worsens. In that scenario, 10% of mortgage-holders would be faced with the problem of unemployment.

The final piece of the puzzle – next week’s post – is estimating how many of those who are unexpectedly unemployed and who have a mortgage are faced with the loan on their property being greater than that property’s current value.

Is it cheaper to buy or rent?

Introducing the daft report earlier this year, Gerard O’Neill discussed the possibility that we might become a nation of renters. On the other hand, there is a lot of talk at the moment, particularly from those selling homes such as these guys in Palmerstown, about how it is significantly cheaper to buy than to rent. I thought it would be worth investigating this a little more, because at the end of the day, despite all the crazy economic goings-on of the past three years, people still have to make a decision about where and how to live. Is it cheaper to buy than rent, and if so by how much? How do things look now compared to the boom years and how will things look if house prices and rents continue to fall?

To do this, I had a look at average prices and rents for three-bedroom properties around the country from the start of 2006 on. I wanted to calculate the annual premium for owning your accommodation as opposed to just renting it, bearing in mind mortgage interest relief, prevailing interest rates and changing property values and rents. After all, economic theory would suggest that if you get to own the asset at the end of thirty years of living there, you should pay more than if you don’t.

The graph below shows the difference between renting and buying in annual terms for four regions – south County Dublin, Limerick, Dublin’s commuter counties and Connacht/Ulster outside of Galway. It’s calculated for a first-time buyer couple, with mortgage interest relief based on the first year of repayments. I’ve taken ECB+1% as the benchmark interest rate – something which of course may only hold for the first year.


Annual savings for owning rather than renting, 2006-2009

Annual savings for owning rather than renting, 2006-2009

Even with property prices the way they were, it was cheaper to buy your house in 2006 than it was to rent it in everywhere around the country except South County Dublin. Generally, first-time buyers in Dublin could expect to save at least €2,000 over the course of their first year, while elsewhere they could expect to save about €1,000. Only in South County Dublin were first-time buyers actually paying any premium on ownership – in the order of €4,000 over the year for their three-bedroom home.

Sometimes I look back at 2005 and 2006 and wonder what we were all up to. Given those maths, it’s a bit easier to understand again. Of course, things didn’t stay that way. ECB rates started increasing and by mid-2007, potential first-time buyers were faced with the prospect of a premium on ownership in order of €1,000 over the first year – this at a time of uncertainty over capital values. In South County Dublin, the premium on home ownership for the first year was almost €10,000. It should be noted that in a couple of areas, South Dublin city (i.e. all areas with even postcodes), West Dublin and Limerick, it was cheaper to buy than rent – even when interest rates were at their highest. These areas have repeatedly exhibited the highest yields on residential property (about 4% over the past couple of years – high is relative).

Since late 2008, though, as lower interest rates have kicked in, there has been a dramatic swing in the maths back in favour of home-ownership. In late 2008, if you paid the asking price and got ECB+1% for your mortgage, you could expect to save €1,000 in most parts of the country – and more than €3,000 in Limerick or West Dublin. What’s worth noting is that this is at a time of rapidly falling rents as well as house prices. Looking at Q1 figures, that trend is growing with first-time buyers able to save in the region of €3,000 in their first year of ownership. Even in South County Dublin, a household will save money if they buy rather than rent.

How will these figures look in a year’s time? I’ve put in figures marked 2009 Q2 and Q3 to give an indication of how the buy-or-rent decision might look. I’ve assumed another 20% fall in house prices – that’s about a 40% fall from peak to trough. (If that sounds drastic, probably best not to read David McWilliams’ latest comparison of Ireland and Japan.) For rents, I’ve gone for 33% peak-to-trough fall (again, there are those who argue it could be more). In that scenario, buyers would continue be better off than renters in every part of the country. First-time buyers of three-bedroom properties would expect to save anywhere between €1,800 (West Leinster) and €7,000 (Dublin city centre).

To some extent, this is being driven by mortgage interest relief, which is greatest in Year 1. However, Q1 figures indicate that even if there were no mortgage interest relief, there are areas of the country where it is cheaper to buy than rent. And if house prices fall 40% from peak to trough, and rents fall 33%, it will be cheaper to buy than rent, even with no mortgage interest relief, in all areas of the country apart from South County Dublin.

What about the downside? If there are indeed significant swathes of vacant properties around the country that will continue to put pressure on rents for the next 3-5 years, could both rents and house prices halve from their peak values? If that were the case – meaning the typical three-bedroom home in south Dublin city would cost about €900 a month to rent or cost about €275,000 – the maths in favour of buying still look convincing in Dublin but elsewhere it’s a much tougher call. Without mortgage interest relief, homeowners would have to pay around €1,000 a year over what they’d pay to rent.

The tax system as it currently stands certainly strongly favours home ownership. If the government decides that the balance of emphasis when correcting its fiscal black hole should be on raising taxes rather than cutting expenditure, it may abolish mortgage interest relief and bring in a universal residential property tax. This could significantly alter the maths of buying versus renting and bring about the ‘nation of renters’. As it stands, though, even if rents were to halve over the coming year, the premium people pay to actually own their home appears too small for that to happen.

Taxpayers in Baltics, UK and Ireland facing the toughest questions

Two weeks ago, I examined the IMF’s estimates for growth prospects in 2009 and came to the conclusion that in a year where countries such as Afghanistan, Ethiopia and Laos are among the world’s fastest growing economies, more open economies are being hit by a collapse in the globalized consumer’s demand.

The temptation may be to regard this as a somewhat academic question but a closer examination of eurostat figures and the latest European Commission estimates for 2009-2010 shows why this has practical fiscal implications. Eurostat figures show that the EU’s budget deficit between 2000 and 2007 averaged just over 2%. Faster-growing countries such as Bulgaria, Estonia, Ireland and Sweden ran surpluses (Finland ran quite large surpluses in fact), while most of the Old Europe stalwarts, such as Germany, Italy and the UK, ran what would until recently have been termed sizeable budget deficits (i.e. greater than 2% on average).

The EU’s budget deficit grew from 0.8% in 2007 to 2.3% in 2008 and, according to the Commission, is set to almost treble this year to 6%. Next year, that deficit could increase even further to about 7% of EU GDP. Four countries face the prospect of their government balance undergoing a double-digit swing from what they were used to up to 2007 and what they will have to face in 2010 – Spain, the UK, Latvia and Ireland.

Given that foursome, I thought it might be worthwhile to see what groups there are within the EU – when it’s clear that the global trough has been reached, unanimity of purpose may pass, so these groups could have a political as well as economic relevance. The graph below shows mean budget deficits across seven relatively self-explanatory regions in the EU (GAF = Germany, Austria, France; PIGS = Portugal, Italy, Greece, Spain; CEE = Central & Eastern Europe). The regions are ordered from left to right by how ‘in balance’ the economies were from 2001 to 2007. What’s worth noting is that the ordering of the regions will have changed by next year – the Baltics and the British Isles (if I may call them that!) face significant budgetary deficits.

Budget deficits, 2001-2010, by EU region

Budget deficits, 2001-2010, by EU region

With more open economies being harder hit, their governments are facing pressure from all fronts. Alarming statistics are still coming in from places like Latvia, where output is down 30%, and Ireland, where tax revenues are down 24%. If exporters are being hit, their workers are likely to be hit – and the longer the recession goes on, the more workers will hold their consumption in check (not to mention unemployment).

The problem is that government deficits are the last point in the cycle – increasing taxes may have to wait unless the government wants to be responsible for second-round effects. This leaves Ireland in quite a conundrum, as its 2001-2007 tax base will not be coming back any time soon.

Where in Ireland has seen the biggest increase in unemployment?

My recent attempt to put some figures on the scale of negative equity in Ireland – which concluded that about 40% of Irish homes are worth less than when they were bought and that as many as 20% of homes may be in negative equity – sparked some discussion here, on thepropertypin and most thoroughly on

The original post was designed just to put some numbers on the potential problem of negative equity, leaving aside for the time being the implications. Two important strands of discussion have arisen about the implications. The first relates to financial consequences, as mentioned by Karl Whelan, particularly in relation to the proposed NAMA and the fate of the banks. The second broad strand of discussion, being led by Liam Delaney, relates to how negative equity has labour market implications, particular when unemployment is on the rise. (Unemployment and negative equity are mirror images of the home ownership/labour mobility discussion being led in the US by Richard Florida.)

I’m currently working on estimates of how many households are affected by the dual problem of unemployment and negative equity. Combined with the likelihood of falling rents over the coming two/three years, rents being the alternative income a homeowner could get from their house, this is a cocktail for widespread misery currently partially staved off by all-time low interest rates and therefore mortgage repayments.

A next step in working out where both negative equity and unemployment will strike is looking in more detail at the problem of unemployment. The CSO provides very detailed statistics on unemployment by county/town and more occasional detail on the age profile and duration of unemployment. The map below gives an idea of ‘unexpected’ unemployment (original visualization here). It show the increase in those signing on by county in April 2009, compared to the average of 2005 and 2006, meant to indicate a natural level of unemployment (whether long-term or just switching jobs).

Unemployment in Ireland by county, April 2009 compared to 2005/2006

Unemployment in Ireland by county, April 2009 compared to 2005/2006

Those looking with relief at counties in a light brown – such as Waterford, Louth, Donegal and Mayo – should be aware that in all counties, the April 2009 was at least twice the 2005/2006 average. What’s more worrying, though, is that there are a number of counties where unemployment is three times what it was three years ago. In Meath and Kildare -stalwarts of Dublin’s commuter belt – unemployment has more than trebled. Likewise in Cavan and Laois.

The next part of the puzzle is to revisit county-level estimates of negative equity based on comments on the last set of figures and then try to put some numbers on how many households finds themselves faced with both unemployment and with a house worth less than their debt to the bank.

How much are rents falling around the country?

The latest Rental Report is out today. It shows that rents across the country fell by more than 5% in the first three months of the year. The national average rent now stands at €840 per month, compared to just over €1,000 per month a year ago. Nationwide, rents have now fallen for 14 consecutive months. The fall since the peak early last year has been faster than the rise before that, and with rents 17.5% lower than the peak in early 2008, rents are now back mid-2005 levels.

The largest falls in rents have been in the cities. In Dublin and Limerick, rents fell by up to 6.5% in the first three months of the year. In Waterford and Cork cities, rents fell by 5.3% and 5.1% respectively. In Galway, the fall in rents was smaller, at 4.3%. Rents in Dublin’s commuter counties and in West Leinster (i.e. Laois, Longford, Offaly and Westmeath) – presumably an indication of their role as Dublin’s outer and further-outer commuter belts – have fallen by about 6%, more than the national average. At the other end, South-East Leinster (Carlow, Kilkeny and Wexford) and the counties of Connacht and Ulster have seen rents fall by less, typically by about 3.5%. Rents in Leitrim and Roscommon fell by less than 1.5%.

The county-by-county changes are outlined in the map below. As you can see, it’s the extended Dublin area that’s being hit most. For the full details on average rents by county and how much they’ve fallen in the last three months and in the last 12 months, check out the Manyeyes visualization here.

Change in rents by county, 2009 Q1

Change in rents by county, 2009 Q1

The reason for all this is clear – the rental market is feeling the brunt of too much supply and not enough demand. On the supply side, the number of properties available for rent is now over 23,000 – an all time high, certainly compared with the 5000-6000 range we saw on the site up to 2007. This means that landlords are having to fight for tenants, pushing down rents – and rent-a-room income – pretty much everywhere. Add to this falling demand, as Ireland’s most footloose workers head off to pastures new, and it’s pretty clear that the pressure on rents throughout 2009 and maybe into 2010 will be downward pressure.

This report’s commentary is provided by Brian Devine, Chief Economist at NCB Stockbrokers. He highlights the challenges and perils of forecasting facing economists today:

In relation to the property market there have been plenty of forecasts regarding how far residential prices (ranging from -35% to -60%) and to a lesser extent residential rents (ranging from -20% to -35%) are going to fall from peak to trough. Some studies/views on how far prices will fall are based on historical comparisons with previous OECD housing busts. Others invoke the idea of a “fair value” for housing based on, for example, one or more of the following: income-price ratios, mortgage repayment burden, rent-price ratios, rental yield, credit availability, population growth, interest rates and growth in per capita disposable income.

The problem with trying to forecast prices/rents based on the concept of fair value is that prices overshoot and undershoot fair value. The magnitude of the overshoot/undershoot is ultimately determined by psychology. While the psychology of never ending price rises fuelled the market on the way up, economic/job uncertainty and the expectations of further price falls will be the important psychological factors on the way down.

Next week’s property market post will have a look at affordability, i.e. the maths of buying versus renting, based on these figures, and how yields have been affected by the latest falls in rents.


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