Irish Banks Reeling From Bursting of Property Bubble

Ireland's property bubble has burst, sending its banking industry — and economy — into a downward spiral. But bank consolidation and automation efforts may help the small island's financial technology sector regain its roar.

Ireland has gone from being the exemplary economy of Europe to an example of how quickly and badly it can all go wrong. Early this year a joke began circulating: What's the difference between Ireland and Iceland? One letter and six months.

But while Ireland and Iceland share the status of small island countries on the periphery of Western Europe, and as such are buffeted more by the global waves of economic upheaval, the similarities between Ireland and bankrupted Iceland end there — even if a rumor that Ireland was to be rescued by the International Monetary Fund (IMF) was only recently dispelled.

Unlike Iceland, the U.S. and other reeling economies, Ireland did not participate to any meaningful degree in subprime mortgages, either as a lender or an investor in securities backed by such loans, sources concur. Iceland's major banks, on the other hand, bet several times their collective capital on subprime investments that soured. It's true that Ireland, like other countries, is grappling with its banks to have them disclose their full loss exposure, but the sense now is that the losses aren't from subprime loans.

According to experts, Ireland's losses stem more from property developers than individual mortgage borrowers, 99.99 percent of whom are still paying back their loans. (In contrast, nearly 12 percent of all homeowners in the U.S. were behind on their mortgages or in foreclosure at the end of 2008, according to the Mortgage Bankers Association.) For example, EBS Building Society, a Dublin-based mortgage heavyweight, announced in early March that it booked accounting charges assuming that one in five developers will not repay their loans.

Austin Hughes, Brussels-based KBC Bank's (US$422 billion in assets) chief economist in Ireland, says Ireland is in crisis now because of its heavy reliance on the property sector and dependence on now-evaporated wholesale funding to fuel the property market. "The property market here was red-hot; now it's stone-cold," he says. "When the EU had growth of 2 percent, Ireland had growth of 5 percent; now minus 5 percent is predicted for Ireland in 2009 and minus 2 percent for the EU overall." [Ed. note: KBC let go some of its Irish staff in January but has said there have been no additional layoffs since, despite reports that KBC's Irish sales staffers had been laid off or otherwise reassigned to credit quality control.]

According to Tony Moroney, CEO of Haven Mortgages, the mortgage banking division of EBS Building Society (US$27.6 billion in assets), Ireland's sixth-largest credit institution, Irish mortgage originations almost halved in two years, falling from US$50 million in 2006 to US$29 million in 2008.

Formerly known as the Celtic Tiger for the economic strength it wielded over the last two decades, Ireland was one of the first European Union countries to officially slip into recession, in the second quarter of 2008. Ireland's sudden loss of 20 percent of its gross domestic product (GDP) has created a national deficit where there previously was a surplus, notes Paul Kerley, CEO of Norkom Technologies, a global provider of financial fraud prevention software with offices in Dublin.

"Irish debt is at 20 percent of GDP," Kerley points out. "That's not the worst, but our income is going down the toilet, and nobody's telling us how to replace it or how to pay to replenish the banks."

From Property Boom to Bust

During the 10-year boom leading to 2004, surveys showed that Dublin saw greater appreciation in property values than any other capital in the world. Buoyed by their property values, the Irish became the second-wealthiest people per capita in the world, after the Japanese — and, largely because of property loans, the most indebted, after U.S. citizens.

Notably, however, Ireland did not offer easy mortgage money to consumers. Down payments of between 10 percent and 20 percent and loans at low multiples of (verified!) income were typical, according to the bankers interviewed for this story. Officially, they say, there were no 120 percent loan-to-value (LTV) mortgages, and until 2005 there weren't even 100 percent LTV mortgages. Only then did a few Irish lenders begin to carve out a tiny subprime niche.

It also is important to note that technology (read: rules-based systems applying lax underwriting rules) was not a factor in Ireland's mortgage boom. In fact the loan application process has barely been automated in Ireland.

Assumptions about the sustainability of elevated Irish property values certainly could be questioned in hindsight, but Irish property values have not fallen nearly as sharply as those in the U.S. (Irish properties lost 9.1 percent of their value last year and are expected to lose a further 10 percent in 2009, according to the national ptsb House Price Index, whereas average U.S. home prices fell by 18 percent in the fourth quarter alone, with another 25 percent drop expected this year, according to the Standard & Poor's Home Price Index.) Nonetheless, Irish property declines have been more than enough to curtail the recent national hobby of investing in properties to rent.