OPINION:Nama is a macroeconomic three-card trick to refinance incompetent bankers and reflate a property bubble without addressing reform in the property market, banks, or bank regulation
THE GOVERNMENT faces serious credibility problems in securing public support for its bad bank, the National Asset Management Agency.
Up and down the country there are scores of empty housing estates. Public opinion is convinced that the purpose of Nama is to bail out the builders of these largely useless estates and the bankers who financed them, and that the bailout will take place at the expense of taxpayers.
Builders, bankers and the senior public servants who failed to regulate these sectors are perceived to be getting off scot-free from the crisis they caused. The Nama houses, as they are called in their localities, must be sold openly now at market prices. Anything else will be seen as builders and bankers gaining at the taxpayers’ expense.
The interface between politicians and the construction industry in Ireland has frequently disgraced both parties. The economic record of the sector has been regularly published by the Economist magazine and shows Ireland to have by far the worst house price performance in the OECD countries.
On April 5th last year the Economist asked: “Where are house prices most overvalued?” The answer was Ireland. Almost a third of house price increases between 1997 and 2007 could not be justified by economic fundamentals. The Irish house price rise of 251 per cent between 1997 and 2007 was double the US national index and was notably uncompetitive compared to Germany, Japan, Italy, France, Denmark, Australia, Canada and Sweden, and even with other house bubble countries such as the UK and Spain.
Housing accounted for 12.7 per cent of GDP in 2006, about twice the typical share in other advanced economies.
The performance of the construction sector in providing public infrastructure was also a disaster. The cost overrun on the national primary roads budget was €10.8 billion on an initial estimate of €5.6 billion. The Dublin Port Tunnel cost escalated from €220 million in 2000, to €580 million in 2002 and €792 million in 2006. The M50 widening increased from €190 million to €562 million, the Youghal bypass from €10.7 million to €43.5 million and Luas from €290 million to €750 million.
It has, therefore, been obvious for quite some time that the construction sector was on a bubble path, and was seriously damaging national competitiveness by the prices it charged to house buyers and for public infrastructure. The sector was confident that it could rely on subservient politicians for dig-outs. Builders also knew that the bankers who funded their bubble lacked the qualities required to call in their loans.
I fully support Colm McCarthy’s call for an inquiry into what was going on in Irish banking in recent years. For over 200 years, Irish banks guarded our savings, transferred our payments and invested prudently as did their Canadian counterparts who are still solvent today.
What does the Government propose to do to protect the simple banking service sought by 99 per cent of Irish people from the casino conduct of Irish bankers which caused this crisis? Were the seeds of this banking crisis sown when we last engaged in bank rescue two decades ago?
In addition to the failures of construction and banking we have the failure of the Central Bank, the Financial Regulator and the Department of Finance to curtail the builder-banker bubble.
A crucial part of the McCarthy report is that we stop creating quangos. It is naïve to proceed on the basis that by some miracle Nama will be different from all the other quangos. The builders will be relieved of their gambling debts on high property prices. The bankers will be relieved of the costs of their incompetent lending and senior regulators will no longer have egg on their faces but be reinvented as neo-Keynesian economic heroes who save the economy.
It will be so easy. Nama pays off the builders at a bit less than bubble prices, builders pay off the unreformed banks and banks will immediately begin investing in productive economic activities and will never be codded by builders again, really. Nama is a macroeconomic three-card trick to refinance incompetent Irish bankers and reflate a property bubble without addressing reform in the property market, banks or bank regulation. It has dire microeconomic consequences for these sectors and adverse consequences for the rest of the economy.
Market efficiency outside the three sectors being rescued depends on people working hard, investing wisely and being efficient. This efficiency is ensured by ease of entry to, and exit from, the market. Rescuing failed businesses results in the so-called moral hazard problem in economics. By removing the penalties for failure, the incentives for hard work and wise investment are also removed.
The immediate result of market exit by bankrupt builders and bankers would be a fall in property prices. This will reduce the cost base of the Irish economy. Ireland would gain in competitiveness by having lower property costs. A target in our economic recovery should be to reduce the ratio of house prices to average earnings. The prospect of Nama is preventing prices from falling now and delaying Ireland’s economic recovery.
The prices of houses and other property will not be allowed to fall to the full market extent under Nama. The assets will be transferred to Nama at their imputed long-term economic value. This will be in excess of current market prices.
The market price of any item is determined by supply and demand. That is why, happily, we do not have a Nama for horses, aircraft and millions of other goods and services. The market for empty Irish houses, shops, hotels and the bizarrely titled “development land” is similarly determined by competition between those who believe that the items have, and will continue to have, a high value and those who don’t share that opinion.
The Nama concept that taxpayers should pay above market prices for the assets of bankrupt builders and bankers because they have a higher long-term economic value is an economic nonsense. The prices in the market already incorporate these long-term considerations. Since these considerations are already incorporated in the market price there is no economic case for further intervention by Nama to pay any higher price.
It is silly for the proponents of Nama to maintain that paying above market prices for impaired assets is not a subsidy to bankers and builders. The banks themselves, with the exception of ACCBank, have spent a lot of time and money at the High Court and Supreme Court to buy time so that they may benefit from Nama.
The proposition that Nama should pay more for impaired assets because it alone is aware of their long-term economic value is at best a gamble with public money founded on a belief that Nama knows something that no one else in the market knows about these items.
This way of doing business has been agreed, we are told with some pride, by the IMF, the ECB and the EU Commission. This might be as simple as international bureaucrats rescuing national bureaucrats from a hole of their own making. We also need to know whose version of this crisis was communicated to the international bureaucracies.
The proponents of Nama describe the sale at market prices of impaired assets as a fire sale. The description is, of course, wrong. A fire sale involves assets harmed by the fire and the damage is incorporated in the price. The sale of empty houses, shops, hotels and land bought at inflated prices arises from the economic incompetence of the builders and bankers concerned and not because of any fire damage.
Sales transfer assets from the present incompetent owners to new owners. If these owners are also incompetent the assets will be sold on again at lower prices. The sooner we do this the quicker will Ireland’s economic recovery begin.
Ireland needs to lose its property bubble fixation. We need lower property prices across the board for houses, shops, hotels, factories and land for decades to come to restore and retain our competitiveness.
We need a banking system based on the traditional Irish model still observed in Canada. We must separate this from the casino model and must remove layers of bank management as their penalty for destroying as much as 98 per cent of the value of their companies. We need building societies that lend to their members and not to developers.
We need competence in financial regulation across the Central Bank, Financial Regulator and Department of Finance, with massive management changes in all three bodies. We must solve the present crisis in the three sectors that caused it, bad builders, bad bankers and bad regulators.
We do not need Nama.
Seán Barrett is senior lecturer at the department of economics in Trinity College Dublin