Decomposing Irish house price movements: 2000 - 2010
Decomposing Irish house price movements: 2000 - 2010 Yvonne McCarthy and Kieran McQuinn Central Bank of Ireland The Irish Mortgage Market in Context, 13th October 2011 The views expressed here are those of the authors and do not necessarily reflect those of the Central Bank of Ireland or the ESCB.
Irish house price movements - a brief and painful recap! 1. Amongst the OECD, Irish house price growth between 1995 and 2007 the largest. 2. In real terms, Irish prices grew by 9 per cent per annum over this period, ◮
Next highest growth rate was 7.6 per cent.
3. Since 2007 falls in Irish prices have also been the most significant. 4. On the face of it the Irish story is a classic case of: ◮
Fundamental versus non-fundamental components of growth.
5. However, story is complicated by the significant change in credit provision conditions in the Irish financial system.
CBI, Irish House Prices, Conference
2
Irish house price movements - a brief and painful recap! 1. Amongst the OECD, Irish house price growth between 1995 and 2007 the largest. 2. In real terms, Irish prices grew by 9 per cent per annum over this period, ◮
Next highest growth rate was 7.6 per cent.
3. Since 2007 falls in Irish prices have also been the most significant. 4. On the face of it the Irish story is a classic case of: ◮
Fundamental versus non-fundamental components of growth.
5. However, story is complicated by the significant change in credit provision conditions in the Irish financial system.
CBI, Irish House Prices, Conference
2
Irish house price movements - a brief and painful recap! 1. Amongst the OECD, Irish house price growth between 1995 and 2007 the largest. 2. In real terms, Irish prices grew by 9 per cent per annum over this period, ◮
Next highest growth rate was 7.6 per cent.
3. Since 2007 falls in Irish prices have also been the most significant. 4. On the face of it the Irish story is a classic case of: ◮
Fundamental versus non-fundamental components of growth.
5. However, story is complicated by the significant change in credit provision conditions in the Irish financial system.
CBI, Irish House Prices, Conference
2
Irish house price movements - a brief and painful recap! 1. Amongst the OECD, Irish house price growth between 1995 and 2007 the largest. 2. In real terms, Irish prices grew by 9 per cent per annum over this period, ◮
Next highest growth rate was 7.6 per cent.
3. Since 2007 falls in Irish prices have also been the most significant. 4. On the face of it the Irish story is a classic case of: ◮
Fundamental versus non-fundamental components of growth.
5. However, story is complicated by the significant change in credit provision conditions in the Irish financial system.
CBI, Irish House Prices, Conference
2
Irish house price movements - a brief and painful recap! 1. Amongst the OECD, Irish house price growth between 1995 and 2007 the largest. 2. In real terms, Irish prices grew by 9 per cent per annum over this period, ◮
Next highest growth rate was 7.6 per cent.
3. Since 2007 falls in Irish prices have also been the most significant. 4. On the face of it the Irish story is a classic case of: ◮
Fundamental versus non-fundamental components of growth.
5. However, story is complicated by the significant change in credit provision conditions in the Irish financial system.
CBI, Irish House Prices, Conference
2
Irish house price movements - underlying determinants 1. Substantial increase in demand side factors, ◮ ◮ ◮ ◮
Doubling of the economy between 1995 - 2005, Number at work increases by 50 per cent, Relatively young population, Income per capita goes from one of the lowest to the highest in the eurozone.
2. Allied to Irish specific factors ◮
◮ ◮
Internationally, stable and accommodative monetary policy over a prolonged period, Contributed to a significant number of housing booms across the OECD, In an Irish context, it increased affordability substantially.
3. Over the same period, Irish credit markets ◮ ◮
Experienced considerable liberalisation, A number of key credit and interest-rate controls removed.
CBI, Irish House Prices, Conference
3
Irish house price movements - underlying determinants 1. Substantial increase in demand side factors, ◮ ◮ ◮ ◮
Doubling of the economy between 1995 - 2005, Number at work increases by 50 per cent, Relatively young population, Income per capita goes from one of the lowest to the highest in the eurozone.
2. Allied to Irish specific factors ◮
◮ ◮
Internationally, stable and accommodative monetary policy over a prolonged period, Contributed to a significant number of housing booms across the OECD, In an Irish context, it increased affordability substantially.
3. Over the same period, Irish credit markets ◮ ◮
Experienced considerable liberalisation, A number of key credit and interest-rate controls removed.
CBI, Irish House Prices, Conference
3
Irish house price movements - underlying determinants 1. Substantial increase in demand side factors, ◮ ◮ ◮ ◮
Doubling of the economy between 1995 - 2005, Number at work increases by 50 per cent, Relatively young population, Income per capita goes from one of the lowest to the highest in the eurozone.
2. Allied to Irish specific factors ◮
◮ ◮
Internationally, stable and accommodative monetary policy over a prolonged period, Contributed to a significant number of housing booms across the OECD, In an Irish context, it increased affordability substantially.
3. Over the same period, Irish credit markets ◮ ◮
Experienced considerable liberalisation, A number of key credit and interest-rate controls removed.
CBI, Irish House Prices, Conference
3
However, changing nature of credit institutions funding
1. Arguably the most profound impact on credit provision, ◮
Domestically and internationally.
2. Within the Eurozone ◮ ◮ ◮
Deeper and more integrated bond markets, Abolition of exchange rate risk, Resulted in a substantial increase in market based funding - debt securities.
3. Irish institutions particularly availed of this funding ◮ ◮
Celtic tiger growth in the real economy since the mid-1990s, Lead to a voracious demand for credit from Irish financial institutions.
CBI, Irish House Prices, Conference
4
However, changing nature of credit institutions funding
1. Arguably the most profound impact on credit provision, ◮
Domestically and internationally.
2. Within the Eurozone ◮ ◮ ◮
Deeper and more integrated bond markets, Abolition of exchange rate risk, Resulted in a substantial increase in market based funding - debt securities.
3. Irish institutions particularly availed of this funding ◮ ◮
Celtic tiger growth in the real economy since the mid-1990s, Lead to a voracious demand for credit from Irish financial institutions.
CBI, Irish House Prices, Conference
4
However, changing nature of credit institutions funding
1. Arguably the most profound impact on credit provision, ◮
Domestically and internationally.
2. Within the Eurozone ◮ ◮ ◮
Deeper and more integrated bond markets, Abolition of exchange rate risk, Resulted in a substantial increase in market based funding - debt securities.
3. Irish institutions particularly availed of this funding ◮ ◮
Celtic tiger growth in the real economy since the mid-1990s, Lead to a voracious demand for credit from Irish financial institutions.
CBI, Irish House Prices, Conference
4
Figure 1: Euro Area Loan to Deposit Gap
140
40.0
130
37.5
120
32.5 100 30.0 90 27.5
percentage of GDP
percentage of GDP
35.0 110
80 25.0
70
60
22.5 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 Total lending to domestic non-MFI Deposits from domestic non financial sectors Housing loans to households (right-hand scale)
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5
Figure 2: Funding of Irish Financial Institutions
Issuance of Debt Securities by Irish Mortgage Lenders
Private Sector Credit and Deposit Levels in the Irish Financial System 400
180
160
350 140
300
100
euros billions
euros billions
120
80
60
250
200
150
40
20
100 0 2001
2003
2005
2007
2009
Irish counterparties Other Monetary Union counterparties Rest of the world counterparties
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50 2001
2003
2005
Private sector credit
2007
2009 Deposits
6
Summary Irish Residential Mortgage Market Statistics: 1985 2010
Variable
Unit
1985
1995
2000
2005
2007
2010
Outstanding Level of Residential Lending
€ million
6,470
11,938
32,546
94,259
123,002
99,578
Total Value of Mortgages Issued
€ million
880
2,666
9,004
27,753
24,064
4,142
€
28,192
54,094
111,355
231,206
271,154
207,828
31,203
49,288
80,856
120,037
88,747
19,929
46,542
77,994
169,191
276,221
322,634
228,268
23,948
30,575
49,812
80,957
78,027
14,602
Average Mortgage Issued Total Number of Mortgages Issued House Prices Housing Supply
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€
7
Credit and house prices - a complex relationship
1. Traditionally, some level of demand for housing in the economy ◮ ◮
In regulated markets such as the Irish case was, Mortgage credit would be some function of this demand.
2. However greater liberalisation and “innovation” in credit markets. ◮
Changes in credit policy itself affecting demand for housing?
3. The potential endogeneity of credit and house prices ◮ ◮ ◮ ◮
Has been examined on an increasing basis, Notable examples Fernandez-Corugedo and Muellbauer (2006), Credit conditions index indicator (CCI) drives housing demand, Domestically Fitzpatrick and McQuinn (2007) examine the issue.
CBI, Irish House Prices, Conference
8
Credit and house prices - a complex relationship
1. Traditionally, some level of demand for housing in the economy ◮ ◮
In regulated markets such as the Irish case was, Mortgage credit would be some function of this demand.
2. However greater liberalisation and “innovation” in credit markets. ◮
Changes in credit policy itself affecting demand for housing?
3. The potential endogeneity of credit and house prices ◮ ◮ ◮ ◮
Has been examined on an increasing basis, Notable examples Fernandez-Corugedo and Muellbauer (2006), Credit conditions index indicator (CCI) drives housing demand, Domestically Fitzpatrick and McQuinn (2007) examine the issue.
CBI, Irish House Prices, Conference
8
Credit and house prices - a complex relationship
1. Traditionally, some level of demand for housing in the economy ◮ ◮
In regulated markets such as the Irish case was, Mortgage credit would be some function of this demand.
2. However greater liberalisation and “innovation” in credit markets. ◮
Changes in credit policy itself affecting demand for housing?
3. The potential endogeneity of credit and house prices ◮ ◮ ◮ ◮
Has been examined on an increasing basis, Notable examples Fernandez-Corugedo and Muellbauer (2006), Credit conditions index indicator (CCI) drives housing demand, Domestically Fitzpatrick and McQuinn (2007) examine the issue.
CBI, Irish House Prices, Conference
8
What do we do?
1. Identify both the impact and the main channels, 2. Of changing credit conditions on Irish house price movements. ◮ ◮
For the four FMP Irish financial institutions, Over the period 2000 - 2010.
3. Aggregated up from hundreds of thousands of loan level data. 4. Our approach is a static / accounting type decomposition.
CBI, Irish House Prices, Conference
9
What do we do?
1. Identify both the impact and the main channels, 2. Of changing credit conditions on Irish house price movements. ◮ ◮
For the four FMP Irish financial institutions, Over the period 2000 - 2010.
3. Aggregated up from hundreds of thousands of loan level data. 4. Our approach is a static / accounting type decomposition.
CBI, Irish House Prices, Conference
9
What do we do?
1. Identify both the impact and the main channels, 2. Of changing credit conditions on Irish house price movements. ◮ ◮
For the four FMP Irish financial institutions, Over the period 2000 - 2010.
3. Aggregated up from hundreds of thousands of loan level data. 4. Our approach is a static / accounting type decomposition.
CBI, Irish House Prices, Conference
9
What do we do?
1. Identify both the impact and the main channels, 2. Of changing credit conditions on Irish house price movements. ◮ ◮
For the four FMP Irish financial institutions, Over the period 2000 - 2010.
3. Aggregated up from hundreds of thousands of loan level data. 4. Our approach is a static / accounting type decomposition.
CBI, Irish House Prices, Conference
9
Specific channels of credit 1. A standard definition of a mortgage annuity Bt 1 − (1 + Rt )−τ Bt = κYt Rt 2. Yt is disposable income, Rt is mortgage interest rate and τ is the mortgage duration loan level. 3. Solve for “κ” Bt
κ= Yt
1−(1+Rt )−τ Rt
4. The proportion of income assumed to go on the mortgage repayment ◮
We refer to this as the income multiple.
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10
Specific channels of credit 1. A standard definition of a mortgage annuity Bt 1 − (1 + Rt )−τ Bt = κYt Rt 2. Yt is disposable income, Rt is mortgage interest rate and τ is the mortgage duration loan level. 3. Solve for “κ” Bt
κ= Yt
1−(1+Rt )−τ Rt
4. The proportion of income assumed to go on the mortgage repayment ◮
We refer to this as the income multiple.
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10
Figure 3: Easing of credit conditions across 4 covered institutions 2000 - 2010
Income Multiples
Loan to Value Ratios
23
Mortgage Term
62.5
27
22 26 60.0 21 25 20
Years
19
%
%
57.5
24
55.0 18 23 17 52.5 22 16
15
50.0 2000
2003
2006
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2009
21 2001
2004
2007
2000
2003
2006
2009
11
Figure 4: Income multiples by income quintile across the 4 covered institutions
32.5 30.0 27.5
%
25.0 22.5 20.0 17.5 15.0 12.5 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 FIRST SECOND
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THIRD FOURTH
FIFTH
12
Figure 5: Easing of credit conditions by source of loan
Income Multiples
Loan to Value Ratios
28
Mortgage Term
85
32
80
26
30 75
24 28 70
Years
%
%
22 65
20
26
60 24 18 55 22
16
50
14
45 2000 2002 2004 2006 2008 2010 AGENT BRANCH
BROKER
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20 2000 2002 2004 2006 2008 2010 AGENT BRANCH
BROKER
2000 2002 2004 2006 2008 2010 AGENT BRANCH
BROKER
13
Figure 6: Scatter plot of income multiples and LTVs across 4 covered institutions 2000 - 2010
0.66 0.64 0.62 0.60
LTV
0.58 0.56 0.54 0.52 0.50 0.48 0.12
0.14
0.16
0.18
0.20
0.22
0.24
Income Multiples
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14
House price decomposition I 1. A house price Pt can be written as Pt = αBt + Bt 2. Substituting in the expression for the mortgage amount, yields 1 − (1 + Rt )−τ Pt = κYt (1 + α) Rt 3. Taking logs lnPt = ln(κ) + ln(Yt ) + ln
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1 − (1 + Rt )−τ Rt
+ ln(1 + α)
15
House price decomposition I 1. A house price Pt can be written as Pt = αBt + Bt 2. Substituting in the expression for the mortgage amount, yields 1 − (1 + Rt )−τ Pt = κYt (1 + α) Rt 3. Taking logs lnPt = ln(κ) + ln(Yt ) + ln
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1 − (1 + Rt )−τ Rt
+ ln(1 + α)
15
House price decomposition I 1. A house price Pt can be written as Pt = αBt + Bt 2. Substituting in the expression for the mortgage amount, yields 1 − (1 + Rt )−τ Pt = κYt (1 + α) Rt 3. Taking logs lnPt = ln(κ) + ln(Yt ) + ln
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1 − (1 + Rt )−τ Rt
+ ln(1 + α)
15
House price decomposition II
1. Change in house prices △lnPt △lnPt = △ln(κ) + △ln(Yt ) + △ln
1 − (1 + Rt )−τ Rt
+ △ln(1 + α)
2. We decompose house prices accordingly over the period 2000 - 2010 ◮
Aggregate data to a monthly basis.
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16
House price decomposition II
1. Change in house prices △lnPt △lnPt = △ln(κ) + △ln(Yt ) + △ln
1 − (1 + Rt )−τ Rt
+ △ln(1 + α)
2. We decompose house prices accordingly over the period 2000 - 2010 ◮
Aggregate data to a monthly basis.
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16
Figure 7: Decomposition of house price movements 2000 - 2010
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17
Summary of results
1. Clear evidence that both fundamental and non-fundamental factors drove house prices. 2. Fundamental factors: ◮ ◮
Higher levels of income presented by purchasers, Accommodative monetary policy particularly post 2001.
3. Changing credit standards mainly through income multiples ◮ ◮
Also played a very important role, Interestingly both at the start and at the end of the sample.
4. A lot of the post 2008 downturn being driven by credit contraction?
CBI, Irish House Prices, Conference
18
Summary of results
1. Clear evidence that both fundamental and non-fundamental factors drove house prices. 2. Fundamental factors: ◮ ◮
Higher levels of income presented by purchasers, Accommodative monetary policy particularly post 2001.
3. Changing credit standards mainly through income multiples ◮ ◮
Also played a very important role, Interestingly both at the start and at the end of the sample.
4. A lot of the post 2008 downturn being driven by credit contraction?
CBI, Irish House Prices, Conference
18
Summary of results
1. Clear evidence that both fundamental and non-fundamental factors drove house prices. 2. Fundamental factors: ◮ ◮
Higher levels of income presented by purchasers, Accommodative monetary policy particularly post 2001.
3. Changing credit standards mainly through income multiples ◮ ◮
Also played a very important role, Interestingly both at the start and at the end of the sample.
4. A lot of the post 2008 downturn being driven by credit contraction?
CBI, Irish House Prices, Conference
18
Summary of results
1. Clear evidence that both fundamental and non-fundamental factors drove house prices. 2. Fundamental factors: ◮ ◮
Higher levels of income presented by purchasers, Accommodative monetary policy particularly post 2001.
3. Changing credit standards mainly through income multiples ◮ ◮
Also played a very important role, Interestingly both at the start and at the end of the sample.
4. A lot of the post 2008 downturn being driven by credit contraction?
CBI, Irish House Prices, Conference
18
Figure 8: Actual and counterfactual house prices 2000 - 2010
375 350 325
Euro 000s
300 275 250 225 200 175 150 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 ACTUAL
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COUNTER FACTUAL
19
Some important considerations
1. Analysis is a conducted on a static, accounting type basis. 2. Considerable evidence to suggest income itself was driven by credit ◮
Underestimating the role of changing credit standards?
3. Endogeneity of credit conditions: ◮
◮
Fitzpatrick and McQuinn (2007) present clear evidence of a mutually reinforcing relationship, Income multiples, LTVs themselves a function of price changes?
4. One initial way of addressing some of these issues: ◮
Take the monthly aggregates of the data and put them in a VAR.
CBI, Irish House Prices, Conference
20
Some important considerations
1. Analysis is a conducted on a static, accounting type basis. 2. Considerable evidence to suggest income itself was driven by credit ◮
Underestimating the role of changing credit standards?
3. Endogeneity of credit conditions: ◮
◮
Fitzpatrick and McQuinn (2007) present clear evidence of a mutually reinforcing relationship, Income multiples, LTVs themselves a function of price changes?
4. One initial way of addressing some of these issues: ◮
Take the monthly aggregates of the data and put them in a VAR.
CBI, Irish House Prices, Conference
20
Some important considerations
1. Analysis is a conducted on a static, accounting type basis. 2. Considerable evidence to suggest income itself was driven by credit ◮
Underestimating the role of changing credit standards?
3. Endogeneity of credit conditions: ◮
◮
Fitzpatrick and McQuinn (2007) present clear evidence of a mutually reinforcing relationship, Income multiples, LTVs themselves a function of price changes?
4. One initial way of addressing some of these issues: ◮
Take the monthly aggregates of the data and put them in a VAR.
CBI, Irish House Prices, Conference
20
Some important considerations
1. Analysis is a conducted on a static, accounting type basis. 2. Considerable evidence to suggest income itself was driven by credit ◮
Underestimating the role of changing credit standards?
3. Endogeneity of credit conditions: ◮
◮
Fitzpatrick and McQuinn (2007) present clear evidence of a mutually reinforcing relationship, Income multiples, LTVs themselves a function of price changes?
4. One initial way of addressing some of these issues: ◮
Take the monthly aggregates of the data and put them in a VAR.
CBI, Irish House Prices, Conference
20
Initial VAR analysis 1. Take κ, Y, P, R and external bank debt (D) ◮
Put them in a VAR over the period 2001:1 to 2010:12
κ Y P D R
F Stat Significance κ Y P 0.00 0.07 0.00 0.05 0.00 0.76 0.00 0.414 0.00 0.01 0.04 0.10 0.08 0.39 0.07
2. Y and P appear to Granger cause κ, 3. While D appears to Granger cause Y and P.
CBI, Irish House Prices, Conference
21
Initial VAR analysis 1. Take κ, Y, P, R and external bank debt (D) ◮
Put them in a VAR over the period 2001:1 to 2010:12
κ Y P D R
F Stat Significance κ Y P 0.00 0.07 0.00 0.05 0.00 0.76 0.00 0.414 0.00 0.01 0.04 0.10 0.08 0.39 0.07
2. Y and P appear to Granger cause κ, 3. While D appears to Granger cause Y and P.
CBI, Irish House Prices, Conference
21
Initial VAR analysis 1. Take κ, Y, P, R and external bank debt (D) ◮
Put them in a VAR over the period 2001:1 to 2010:12
κ Y P D R
F Stat Significance κ Y P 0.00 0.07 0.00 0.05 0.00 0.76 0.00 0.414 0.00 0.01 0.04 0.10 0.08 0.39 0.07
2. Y and P appear to Granger cause κ, 3. While D appears to Granger cause Y and P.
CBI, Irish House Prices, Conference
21
Initial VAR analysis 1. Take κ, Y, P, R and external bank debt (D) ◮
Put them in a VAR over the period 2001:1 to 2010:12
κ Y P D R
F Stat Significance κ Y P 0.00 0.07 0.00 0.05 0.00 0.76 0.00 0.414 0.00 0.01 0.04 0.10 0.08 0.39 0.07
2. Y and P appear to Granger cause κ, 3. While D appears to Granger cause Y and P.
CBI, Irish House Prices, Conference
21
Conclusions 1. House price boom appears to have been a function of both demographic and changing credit conditions. 2. Evidence that credit conditions are procyclical. 3. Currently, Irish financial institutions are obliged to deleverage. 4. With economic recovery still precariously placed, 5. Understanding the role credit plays is imperative, 6. So a contraction in credit conditions does not impede recovery.
CBI, Irish House Prices, Conference
22
Conclusions 1. House price boom appears to have been a function of both demographic and changing credit conditions. 2. Evidence that credit conditions are procyclical. 3. Currently, Irish financial institutions are obliged to deleverage. 4. With economic recovery still precariously placed, 5. Understanding the role credit plays is imperative, 6. So a contraction in credit conditions does not impede recovery.
CBI, Irish House Prices, Conference
22
Conclusions 1. House price boom appears to have been a function of both demographic and changing credit conditions. 2. Evidence that credit conditions are procyclical. 3. Currently, Irish financial institutions are obliged to deleverage. 4. With economic recovery still precariously placed, 5. Understanding the role credit plays is imperative, 6. So a contraction in credit conditions does not impede recovery.
CBI, Irish House Prices, Conference
22
Conclusions 1. House price boom appears to have been a function of both demographic and changing credit conditions. 2. Evidence that credit conditions are procyclical. 3. Currently, Irish financial institutions are obliged to deleverage. 4. With economic recovery still precariously placed, 5. Understanding the role credit plays is imperative, 6. So a contraction in credit conditions does not impede recovery.
CBI, Irish House Prices, Conference
22
Conclusions 1. House price boom appears to have been a function of both demographic and changing credit conditions. 2. Evidence that credit conditions are procyclical. 3. Currently, Irish financial institutions are obliged to deleverage. 4. With economic recovery still precariously placed, 5. Understanding the role credit plays is imperative, 6. So a contraction in credit conditions does not impede recovery.
CBI, Irish House Prices, Conference
22
Conclusions 1. House price boom appears to have been a function of both demographic and changing credit conditions. 2. Evidence that credit conditions are procyclical. 3. Currently, Irish financial institutions are obliged to deleverage. 4. With economic recovery still precariously placed, 5. Understanding the role credit plays is imperative, 6. So a contraction in credit conditions does not impede recovery.
CBI, Irish House Prices, Conference
22
Irish house price movements - a brief and painful recap! 1. Amongst the OECD, Irish house price growth between 1995 and 2007 the largest. 2. In real terms, Irish prices grew by 9 per cent per annum over this period, ◮
Next highest growth rate was 7.6 per cent.
3. Since 2007 falls in Irish prices have also been the most significant. 4. On the face of it the Irish story is a classic case of: ◮
Fundamental versus non-fundamental components of growth.
5. However, story is complicated by the significant change in credit provision conditions in the Irish financial system.
CBI, Irish House Prices, Conference
2
Irish house price movements - a brief and painful recap! 1. Amongst the OECD, Irish house price growth between 1995 and 2007 the largest. 2. In real terms, Irish prices grew by 9 per cent per annum over this period, ◮
Next highest growth rate was 7.6 per cent.
3. Since 2007 falls in Irish prices have also been the most significant. 4. On the face of it the Irish story is a classic case of: ◮
Fundamental versus non-fundamental components of growth.
5. However, story is complicated by the significant change in credit provision conditions in the Irish financial system.
CBI, Irish House Prices, Conference
2
Irish house price movements - a brief and painful recap! 1. Amongst the OECD, Irish house price growth between 1995 and 2007 the largest. 2. In real terms, Irish prices grew by 9 per cent per annum over this period, ◮
Next highest growth rate was 7.6 per cent.
3. Since 2007 falls in Irish prices have also been the most significant. 4. On the face of it the Irish story is a classic case of: ◮
Fundamental versus non-fundamental components of growth.
5. However, story is complicated by the significant change in credit provision conditions in the Irish financial system.
CBI, Irish House Prices, Conference
2
Irish house price movements - a brief and painful recap! 1. Amongst the OECD, Irish house price growth between 1995 and 2007 the largest. 2. In real terms, Irish prices grew by 9 per cent per annum over this period, ◮
Next highest growth rate was 7.6 per cent.
3. Since 2007 falls in Irish prices have also been the most significant. 4. On the face of it the Irish story is a classic case of: ◮
Fundamental versus non-fundamental components of growth.
5. However, story is complicated by the significant change in credit provision conditions in the Irish financial system.
CBI, Irish House Prices, Conference
2
Irish house price movements - a brief and painful recap! 1. Amongst the OECD, Irish house price growth between 1995 and 2007 the largest. 2. In real terms, Irish prices grew by 9 per cent per annum over this period, ◮
Next highest growth rate was 7.6 per cent.
3. Since 2007 falls in Irish prices have also been the most significant. 4. On the face of it the Irish story is a classic case of: ◮
Fundamental versus non-fundamental components of growth.
5. However, story is complicated by the significant change in credit provision conditions in the Irish financial system.
CBI, Irish House Prices, Conference
2
Irish house price movements - underlying determinants 1. Substantial increase in demand side factors, ◮ ◮ ◮ ◮
Doubling of the economy between 1995 - 2005, Number at work increases by 50 per cent, Relatively young population, Income per capita goes from one of the lowest to the highest in the eurozone.
2. Allied to Irish specific factors ◮
◮ ◮
Internationally, stable and accommodative monetary policy over a prolonged period, Contributed to a significant number of housing booms across the OECD, In an Irish context, it increased affordability substantially.
3. Over the same period, Irish credit markets ◮ ◮
Experienced considerable liberalisation, A number of key credit and interest-rate controls removed.
CBI, Irish House Prices, Conference
3
Irish house price movements - underlying determinants 1. Substantial increase in demand side factors, ◮ ◮ ◮ ◮
Doubling of the economy between 1995 - 2005, Number at work increases by 50 per cent, Relatively young population, Income per capita goes from one of the lowest to the highest in the eurozone.
2. Allied to Irish specific factors ◮
◮ ◮
Internationally, stable and accommodative monetary policy over a prolonged period, Contributed to a significant number of housing booms across the OECD, In an Irish context, it increased affordability substantially.
3. Over the same period, Irish credit markets ◮ ◮
Experienced considerable liberalisation, A number of key credit and interest-rate controls removed.
CBI, Irish House Prices, Conference
3
Irish house price movements - underlying determinants 1. Substantial increase in demand side factors, ◮ ◮ ◮ ◮
Doubling of the economy between 1995 - 2005, Number at work increases by 50 per cent, Relatively young population, Income per capita goes from one of the lowest to the highest in the eurozone.
2. Allied to Irish specific factors ◮
◮ ◮
Internationally, stable and accommodative monetary policy over a prolonged period, Contributed to a significant number of housing booms across the OECD, In an Irish context, it increased affordability substantially.
3. Over the same period, Irish credit markets ◮ ◮
Experienced considerable liberalisation, A number of key credit and interest-rate controls removed.
CBI, Irish House Prices, Conference
3
However, changing nature of credit institutions funding
1. Arguably the most profound impact on credit provision, ◮
Domestically and internationally.
2. Within the Eurozone ◮ ◮ ◮
Deeper and more integrated bond markets, Abolition of exchange rate risk, Resulted in a substantial increase in market based funding - debt securities.
3. Irish institutions particularly availed of this funding ◮ ◮
Celtic tiger growth in the real economy since the mid-1990s, Lead to a voracious demand for credit from Irish financial institutions.
CBI, Irish House Prices, Conference
4
However, changing nature of credit institutions funding
1. Arguably the most profound impact on credit provision, ◮
Domestically and internationally.
2. Within the Eurozone ◮ ◮ ◮
Deeper and more integrated bond markets, Abolition of exchange rate risk, Resulted in a substantial increase in market based funding - debt securities.
3. Irish institutions particularly availed of this funding ◮ ◮
Celtic tiger growth in the real economy since the mid-1990s, Lead to a voracious demand for credit from Irish financial institutions.
CBI, Irish House Prices, Conference
4
However, changing nature of credit institutions funding
1. Arguably the most profound impact on credit provision, ◮
Domestically and internationally.
2. Within the Eurozone ◮ ◮ ◮
Deeper and more integrated bond markets, Abolition of exchange rate risk, Resulted in a substantial increase in market based funding - debt securities.
3. Irish institutions particularly availed of this funding ◮ ◮
Celtic tiger growth in the real economy since the mid-1990s, Lead to a voracious demand for credit from Irish financial institutions.
CBI, Irish House Prices, Conference
4
Figure 1: Euro Area Loan to Deposit Gap
140
40.0
130
37.5
120
32.5 100 30.0 90 27.5
percentage of GDP
percentage of GDP
35.0 110
80 25.0
70
60
22.5 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 Total lending to domestic non-MFI Deposits from domestic non financial sectors Housing loans to households (right-hand scale)
CBI, Irish House Prices, Conference
5
Figure 2: Funding of Irish Financial Institutions
Issuance of Debt Securities by Irish Mortgage Lenders
Private Sector Credit and Deposit Levels in the Irish Financial System 400
180
160
350 140
300
100
euros billions
euros billions
120
80
60
250
200
150
40
20
100 0 2001
2003
2005
2007
2009
Irish counterparties Other Monetary Union counterparties Rest of the world counterparties
CBI, Irish House Prices, Conference
50 2001
2003
2005
Private sector credit
2007
2009 Deposits
6
Summary Irish Residential Mortgage Market Statistics: 1985 2010
Variable
Unit
1985
1995
2000
2005
2007
2010
Outstanding Level of Residential Lending
€ million
6,470
11,938
32,546
94,259
123,002
99,578
Total Value of Mortgages Issued
€ million
880
2,666
9,004
27,753
24,064
4,142
€
28,192
54,094
111,355
231,206
271,154
207,828
31,203
49,288
80,856
120,037
88,747
19,929
46,542
77,994
169,191
276,221
322,634
228,268
23,948
30,575
49,812
80,957
78,027
14,602
Average Mortgage Issued Total Number of Mortgages Issued House Prices Housing Supply
CBI, Irish House Prices, Conference
€
7
Credit and house prices - a complex relationship
1. Traditionally, some level of demand for housing in the economy ◮ ◮
In regulated markets such as the Irish case was, Mortgage credit would be some function of this demand.
2. However greater liberalisation and “innovation” in credit markets. ◮
Changes in credit policy itself affecting demand for housing?
3. The potential endogeneity of credit and house prices ◮ ◮ ◮ ◮
Has been examined on an increasing basis, Notable examples Fernandez-Corugedo and Muellbauer (2006), Credit conditions index indicator (CCI) drives housing demand, Domestically Fitzpatrick and McQuinn (2007) examine the issue.
CBI, Irish House Prices, Conference
8
Credit and house prices - a complex relationship
1. Traditionally, some level of demand for housing in the economy ◮ ◮
In regulated markets such as the Irish case was, Mortgage credit would be some function of this demand.
2. However greater liberalisation and “innovation” in credit markets. ◮
Changes in credit policy itself affecting demand for housing?
3. The potential endogeneity of credit and house prices ◮ ◮ ◮ ◮
Has been examined on an increasing basis, Notable examples Fernandez-Corugedo and Muellbauer (2006), Credit conditions index indicator (CCI) drives housing demand, Domestically Fitzpatrick and McQuinn (2007) examine the issue.
CBI, Irish House Prices, Conference
8
Credit and house prices - a complex relationship
1. Traditionally, some level of demand for housing in the economy ◮ ◮
In regulated markets such as the Irish case was, Mortgage credit would be some function of this demand.
2. However greater liberalisation and “innovation” in credit markets. ◮
Changes in credit policy itself affecting demand for housing?
3. The potential endogeneity of credit and house prices ◮ ◮ ◮ ◮
Has been examined on an increasing basis, Notable examples Fernandez-Corugedo and Muellbauer (2006), Credit conditions index indicator (CCI) drives housing demand, Domestically Fitzpatrick and McQuinn (2007) examine the issue.
CBI, Irish House Prices, Conference
8
What do we do?
1. Identify both the impact and the main channels, 2. Of changing credit conditions on Irish house price movements. ◮ ◮
For the four FMP Irish financial institutions, Over the period 2000 - 2010.
3. Aggregated up from hundreds of thousands of loan level data. 4. Our approach is a static / accounting type decomposition.
CBI, Irish House Prices, Conference
9
What do we do?
1. Identify both the impact and the main channels, 2. Of changing credit conditions on Irish house price movements. ◮ ◮
For the four FMP Irish financial institutions, Over the period 2000 - 2010.
3. Aggregated up from hundreds of thousands of loan level data. 4. Our approach is a static / accounting type decomposition.
CBI, Irish House Prices, Conference
9
What do we do?
1. Identify both the impact and the main channels, 2. Of changing credit conditions on Irish house price movements. ◮ ◮
For the four FMP Irish financial institutions, Over the period 2000 - 2010.
3. Aggregated up from hundreds of thousands of loan level data. 4. Our approach is a static / accounting type decomposition.
CBI, Irish House Prices, Conference
9
What do we do?
1. Identify both the impact and the main channels, 2. Of changing credit conditions on Irish house price movements. ◮ ◮
For the four FMP Irish financial institutions, Over the period 2000 - 2010.
3. Aggregated up from hundreds of thousands of loan level data. 4. Our approach is a static / accounting type decomposition.
CBI, Irish House Prices, Conference
9
Specific channels of credit 1. A standard definition of a mortgage annuity Bt 1 − (1 + Rt )−τ Bt = κYt Rt 2. Yt is disposable income, Rt is mortgage interest rate and τ is the mortgage duration loan level. 3. Solve for “κ” Bt
κ= Yt
1−(1+Rt )−τ Rt
4. The proportion of income assumed to go on the mortgage repayment ◮
We refer to this as the income multiple.
CBI, Irish House Prices, Conference
10
Specific channels of credit 1. A standard definition of a mortgage annuity Bt 1 − (1 + Rt )−τ Bt = κYt Rt 2. Yt is disposable income, Rt is mortgage interest rate and τ is the mortgage duration loan level. 3. Solve for “κ” Bt
κ= Yt
1−(1+Rt )−τ Rt
4. The proportion of income assumed to go on the mortgage repayment ◮
We refer to this as the income multiple.
CBI, Irish House Prices, Conference
10
Figure 3: Easing of credit conditions across 4 covered institutions 2000 - 2010
Income Multiples
Loan to Value Ratios
23
Mortgage Term
62.5
27
22 26 60.0 21 25 20
Years
19
%
%
57.5
24
55.0 18 23 17 52.5 22 16
15
50.0 2000
2003
2006
CBI, Irish House Prices, Conference
2009
21 2001
2004
2007
2000
2003
2006
2009
11
Figure 4: Income multiples by income quintile across the 4 covered institutions
32.5 30.0 27.5
%
25.0 22.5 20.0 17.5 15.0 12.5 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 FIRST SECOND
CBI, Irish House Prices, Conference
THIRD FOURTH
FIFTH
12
Figure 5: Easing of credit conditions by source of loan
Income Multiples
Loan to Value Ratios
28
Mortgage Term
85
32
80
26
30 75
24 28 70
Years
%
%
22 65
20
26
60 24 18 55 22
16
50
14
45 2000 2002 2004 2006 2008 2010 AGENT BRANCH
BROKER
CBI, Irish House Prices, Conference
20 2000 2002 2004 2006 2008 2010 AGENT BRANCH
BROKER
2000 2002 2004 2006 2008 2010 AGENT BRANCH
BROKER
13
Figure 6: Scatter plot of income multiples and LTVs across 4 covered institutions 2000 - 2010
0.66 0.64 0.62 0.60
LTV
0.58 0.56 0.54 0.52 0.50 0.48 0.12
0.14
0.16
0.18
0.20
0.22
0.24
Income Multiples
CBI, Irish House Prices, Conference
14
House price decomposition I 1. A house price Pt can be written as Pt = αBt + Bt 2. Substituting in the expression for the mortgage amount, yields 1 − (1 + Rt )−τ Pt = κYt (1 + α) Rt 3. Taking logs lnPt = ln(κ) + ln(Yt ) + ln
CBI, Irish House Prices, Conference
1 − (1 + Rt )−τ Rt
+ ln(1 + α)
15
House price decomposition I 1. A house price Pt can be written as Pt = αBt + Bt 2. Substituting in the expression for the mortgage amount, yields 1 − (1 + Rt )−τ Pt = κYt (1 + α) Rt 3. Taking logs lnPt = ln(κ) + ln(Yt ) + ln
CBI, Irish House Prices, Conference
1 − (1 + Rt )−τ Rt
+ ln(1 + α)
15
House price decomposition I 1. A house price Pt can be written as Pt = αBt + Bt 2. Substituting in the expression for the mortgage amount, yields 1 − (1 + Rt )−τ Pt = κYt (1 + α) Rt 3. Taking logs lnPt = ln(κ) + ln(Yt ) + ln
CBI, Irish House Prices, Conference
1 − (1 + Rt )−τ Rt
+ ln(1 + α)
15
House price decomposition II
1. Change in house prices △lnPt △lnPt = △ln(κ) + △ln(Yt ) + △ln
1 − (1 + Rt )−τ Rt
+ △ln(1 + α)
2. We decompose house prices accordingly over the period 2000 - 2010 ◮
Aggregate data to a monthly basis.
CBI, Irish House Prices, Conference
16
House price decomposition II
1. Change in house prices △lnPt △lnPt = △ln(κ) + △ln(Yt ) + △ln
1 − (1 + Rt )−τ Rt
+ △ln(1 + α)
2. We decompose house prices accordingly over the period 2000 - 2010 ◮
Aggregate data to a monthly basis.
CBI, Irish House Prices, Conference
16
Figure 7: Decomposition of house price movements 2000 - 2010
CBI, Irish House Prices, Conference
17
Summary of results
1. Clear evidence that both fundamental and non-fundamental factors drove house prices. 2. Fundamental factors: ◮ ◮
Higher levels of income presented by purchasers, Accommodative monetary policy particularly post 2001.
3. Changing credit standards mainly through income multiples ◮ ◮
Also played a very important role, Interestingly both at the start and at the end of the sample.
4. A lot of the post 2008 downturn being driven by credit contraction?
CBI, Irish House Prices, Conference
18
Summary of results
1. Clear evidence that both fundamental and non-fundamental factors drove house prices. 2. Fundamental factors: ◮ ◮
Higher levels of income presented by purchasers, Accommodative monetary policy particularly post 2001.
3. Changing credit standards mainly through income multiples ◮ ◮
Also played a very important role, Interestingly both at the start and at the end of the sample.
4. A lot of the post 2008 downturn being driven by credit contraction?
CBI, Irish House Prices, Conference
18
Summary of results
1. Clear evidence that both fundamental and non-fundamental factors drove house prices. 2. Fundamental factors: ◮ ◮
Higher levels of income presented by purchasers, Accommodative monetary policy particularly post 2001.
3. Changing credit standards mainly through income multiples ◮ ◮
Also played a very important role, Interestingly both at the start and at the end of the sample.
4. A lot of the post 2008 downturn being driven by credit contraction?
CBI, Irish House Prices, Conference
18
Summary of results
1. Clear evidence that both fundamental and non-fundamental factors drove house prices. 2. Fundamental factors: ◮ ◮
Higher levels of income presented by purchasers, Accommodative monetary policy particularly post 2001.
3. Changing credit standards mainly through income multiples ◮ ◮
Also played a very important role, Interestingly both at the start and at the end of the sample.
4. A lot of the post 2008 downturn being driven by credit contraction?
CBI, Irish House Prices, Conference
18
Figure 8: Actual and counterfactual house prices 2000 - 2010
375 350 325
Euro 000s
300 275 250 225 200 175 150 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 ACTUAL
CBI, Irish House Prices, Conference
COUNTER FACTUAL
19
Some important considerations
1. Analysis is a conducted on a static, accounting type basis. 2. Considerable evidence to suggest income itself was driven by credit ◮
Underestimating the role of changing credit standards?
3. Endogeneity of credit conditions: ◮
◮
Fitzpatrick and McQuinn (2007) present clear evidence of a mutually reinforcing relationship, Income multiples, LTVs themselves a function of price changes?
4. One initial way of addressing some of these issues: ◮
Take the monthly aggregates of the data and put them in a VAR.
CBI, Irish House Prices, Conference
20
Some important considerations
1. Analysis is a conducted on a static, accounting type basis. 2. Considerable evidence to suggest income itself was driven by credit ◮
Underestimating the role of changing credit standards?
3. Endogeneity of credit conditions: ◮
◮
Fitzpatrick and McQuinn (2007) present clear evidence of a mutually reinforcing relationship, Income multiples, LTVs themselves a function of price changes?
4. One initial way of addressing some of these issues: ◮
Take the monthly aggregates of the data and put them in a VAR.
CBI, Irish House Prices, Conference
20
Some important considerations
1. Analysis is a conducted on a static, accounting type basis. 2. Considerable evidence to suggest income itself was driven by credit ◮
Underestimating the role of changing credit standards?
3. Endogeneity of credit conditions: ◮
◮
Fitzpatrick and McQuinn (2007) present clear evidence of a mutually reinforcing relationship, Income multiples, LTVs themselves a function of price changes?
4. One initial way of addressing some of these issues: ◮
Take the monthly aggregates of the data and put them in a VAR.
CBI, Irish House Prices, Conference
20
Some important considerations
1. Analysis is a conducted on a static, accounting type basis. 2. Considerable evidence to suggest income itself was driven by credit ◮
Underestimating the role of changing credit standards?
3. Endogeneity of credit conditions: ◮
◮
Fitzpatrick and McQuinn (2007) present clear evidence of a mutually reinforcing relationship, Income multiples, LTVs themselves a function of price changes?
4. One initial way of addressing some of these issues: ◮
Take the monthly aggregates of the data and put them in a VAR.
CBI, Irish House Prices, Conference
20
Initial VAR analysis 1. Take κ, Y, P, R and external bank debt (D) ◮
Put them in a VAR over the period 2001:1 to 2010:12
κ Y P D R
F Stat Significance κ Y P 0.00 0.07 0.00 0.05 0.00 0.76 0.00 0.414 0.00 0.01 0.04 0.10 0.08 0.39 0.07
2. Y and P appear to Granger cause κ, 3. While D appears to Granger cause Y and P.
CBI, Irish House Prices, Conference
21
Initial VAR analysis 1. Take κ, Y, P, R and external bank debt (D) ◮
Put them in a VAR over the period 2001:1 to 2010:12
κ Y P D R
F Stat Significance κ Y P 0.00 0.07 0.00 0.05 0.00 0.76 0.00 0.414 0.00 0.01 0.04 0.10 0.08 0.39 0.07
2. Y and P appear to Granger cause κ, 3. While D appears to Granger cause Y and P.
CBI, Irish House Prices, Conference
21
Initial VAR analysis 1. Take κ, Y, P, R and external bank debt (D) ◮
Put them in a VAR over the period 2001:1 to 2010:12
κ Y P D R
F Stat Significance κ Y P 0.00 0.07 0.00 0.05 0.00 0.76 0.00 0.414 0.00 0.01 0.04 0.10 0.08 0.39 0.07
2. Y and P appear to Granger cause κ, 3. While D appears to Granger cause Y and P.
CBI, Irish House Prices, Conference
21
Initial VAR analysis 1. Take κ, Y, P, R and external bank debt (D) ◮
Put them in a VAR over the period 2001:1 to 2010:12
κ Y P D R
F Stat Significance κ Y P 0.00 0.07 0.00 0.05 0.00 0.76 0.00 0.414 0.00 0.01 0.04 0.10 0.08 0.39 0.07
2. Y and P appear to Granger cause κ, 3. While D appears to Granger cause Y and P.
CBI, Irish House Prices, Conference
21
Conclusions 1. House price boom appears to have been a function of both demographic and changing credit conditions. 2. Evidence that credit conditions are procyclical. 3. Currently, Irish financial institutions are obliged to deleverage. 4. With economic recovery still precariously placed, 5. Understanding the role credit plays is imperative, 6. So a contraction in credit conditions does not impede recovery.
CBI, Irish House Prices, Conference
22
Conclusions 1. House price boom appears to have been a function of both demographic and changing credit conditions. 2. Evidence that credit conditions are procyclical. 3. Currently, Irish financial institutions are obliged to deleverage. 4. With economic recovery still precariously placed, 5. Understanding the role credit plays is imperative, 6. So a contraction in credit conditions does not impede recovery.
CBI, Irish House Prices, Conference
22
Conclusions 1. House price boom appears to have been a function of both demographic and changing credit conditions. 2. Evidence that credit conditions are procyclical. 3. Currently, Irish financial institutions are obliged to deleverage. 4. With economic recovery still precariously placed, 5. Understanding the role credit plays is imperative, 6. So a contraction in credit conditions does not impede recovery.
CBI, Irish House Prices, Conference
22
Conclusions 1. House price boom appears to have been a function of both demographic and changing credit conditions. 2. Evidence that credit conditions are procyclical. 3. Currently, Irish financial institutions are obliged to deleverage. 4. With economic recovery still precariously placed, 5. Understanding the role credit plays is imperative, 6. So a contraction in credit conditions does not impede recovery.
CBI, Irish House Prices, Conference
22
Conclusions 1. House price boom appears to have been a function of both demographic and changing credit conditions. 2. Evidence that credit conditions are procyclical. 3. Currently, Irish financial institutions are obliged to deleverage. 4. With economic recovery still precariously placed, 5. Understanding the role credit plays is imperative, 6. So a contraction in credit conditions does not impede recovery.
CBI, Irish House Prices, Conference
22
Conclusions 1. House price boom appears to have been a function of both demographic and changing credit conditions. 2. Evidence that credit conditions are procyclical. 3. Currently, Irish financial institutions are obliged to deleverage. 4. With economic recovery still precariously placed, 5. Understanding the role credit plays is imperative, 6. So a contraction in credit conditions does not impede recovery.
CBI, Irish House Prices, Conference
22
