by Shane Ross
Although Richard Curran’s intervention felt like a bolt from the blue, it wasn’t the first warning about the economic storm that was brewing. David McWilliams and George Lee had taken a dark view of the property market for a long time, and as early as June 2005 The Economist sounded a dramatic warning: ‘The worldwide rise in house prices is the biggest bubble in history. Prepare for the economic pain when it pops.’ The magazine published an accompanying graph, singling out Ireland as the most vulnerable of all European countries to a fall in construction activity. Our dependence on construction was a fearsome 23 per cent; Sweden, by comparison, registered below 10 per cent.
Even further back – in 2004 – Pam Woodall, The Economist’s economics editor, told the Sunday Independent that she reckoned Irish house prices were 42 per cent overvalued based on the ratio of house prices to rents. Nobody in a position to do anything about it – the government, the bankers, the estate agents – took a blind bit of notice.
Two years later Professor Morgan Kelly, an economics lecturer at University College Dublin, strayed out of his normal specialist zone when he spotted the property figures emerging in late 2006. Kelly was so shocked by the porkies he was reading about property and the banks that he decided to enter the arena. Bemused that no one was stating what he believed was the obvious, Morgan took on the role of Jonah. Kelly not only fingered the suicidal property exposure but pointed out that the banking emperor would have no clothes if the bubble burst. Opponents tried to portray him as a nutty professor, but there was nothing arcane about Kelly’s reasoning in a sequence of Irish Times articles.
Starting in December 2006, he looked at economic fundamentals of the housing market in Ireland that other economists strangely ignored, such as the relationship between property prices and incomes. ‘There is an iron law of house prices,’ Kelly wrote. ‘The more house prices rise relative to income and rents, the more they subsequently fall.’ He supplied a simple graph, showing that ‘for every industrialized economy between 1970 and 2000… a rise in house price relative to income is followed by a proportional fall’. House prices in Ireland had risen 30 per cent more than income since 2000; that rise, he argued, was unsustainable, and would be matched by an equivalent fall – plus a standard overshoot that would cause prices to bottom out at 40 to 50 per cent lower than their peak.
In September 2007 Kelly opened an article with these words: ‘Irish banks are now owed almost as much by builders and developers as they are by mortgage holders and are now more exposed to commercial real estate than Japanese banks were when they crashed in 1989.’ He went on to describe vividly how ‘Irish banks have given speculators €100 billion to gamble with’, and ended his chilling piece by deriding the Central Bank for its lack of commitment to regulation. Again, no one listened.
As business editor of the Sunday Independent I was, for once, on the side of the angels. A decade of observing the behaviour of the banks, and knocking them in print, convinced me that their latest antics in the property market were a product of hubris. On 27 July 2007 I wrote an article for the paper headed ‘Run for Cover, Cash is King’. On that date the ISEQ index stood at 8,357. It was to drop below 2,000 by February 2009. I must admit that, having for once read the property and stock markets correctly, I never foresaw the potential perils of holding cash in unstable Irish banks.
Amid all the misplaced bullishness, a few sharp property investors sold out just ahead of the storm. The Doyle family – owners of a number of hotels in Dublin 4 – were maybe the biggest winners in the entire Irish property boom.
The Doyle Group had been founded by the legendary P. V. Doyle. A pal of Charles J. Haughey, he had died too young in 1988, aged sixty-five, leaving his hotel empire to his wife and children.
The Doyle family eventually sold the various elements of its birthright to go-go developers. After a series of complicated deals they disposed of the Berkeley Court Hotel and the Ballsbridge Jurys to Sean Dunne for €379 million, the Burlington Hotel to Bernard McNamara for €288 million, and the Jurys Inns chain to Derek Quinlan for €1.165 billion. The deals were sharp as a razor, just pipping the property turnaround.
A few months later Tom Roche – husband of P. V. Doyle’s daughter Ann – took advantage of the buoyant Exchequer finances to sell the family stake in the West Link toll bridge on Dublin’s M50. The state paid top dollar (€600 million in total, over twelve years) to buy itself out of a one-sided deal signed by the controversial Minister for the Environment Pádraig Flynn back in 1987. The 1987 deal had given Tom Roche’s father (also Tom Roche) rights to monopoly ownership of the M50 toll bridge over the Liffey. The price Roche senior had paid was based on projected traffic flows of 11,000 vehicles a day, rising to 45,000 in 2020 – when the bridge was due to revert to the state. But by 2007 the Roches’ company – National Toll Roads – had the state over a barrel. The traffic was running at a phenomenal rate of 100,000 vehicles a day, and the company was coining it. Better still for the Roches, the toll fee was inflation-linked. Politically, the government was under intense pressure from frustrated motorists to open the toll gates and end the daily commuter traffic jams. Long queues at the toll booths every day sometimes delayed drivers for an hour or more.
With an election looming the government buckled to a campaign (in which I was heavily involved) and bowed to huge pressure from the densely populated commuter belt. Before the polls the government, flush with money, agreed to pay the €600 million buyout payment in twelve tranches of €50 million. The Roche family left the M50 greatly enriched. The government set a date for the toll gates to be opened. The commuters were pacified, but at great cost.
The Roches and the Doyles were not the only shrewd sellers as the market started to turn. Astonishingly, in 2006 and 2007, the two biggest Irish banks began to unload their own property portfolios. Branches of banks for sale sprouted up countrywide. In the autumn of 2006 AIB sold its first tranche through auctioneers Savills to developer Gerry Gannon for around €100 million. A few months later DTZ Sherry FitzGerald sold a further 25 AIB branches in individual lots to private investors for another €100 million. At almost exactly the same time, Bank of Ireland sold 66 branches for €331 million through CB Richard Ellis; among the buyers were Bernard McNamara and Derek Quinlan.
The sensation was not the Big Two’s decision to dump property in tandem, but rather the shock sale of both their Dublin headquarters. Bank of Ireland sold its HQ in Baggot Street, Dublin, for €212 million in June 2006 to a Derek Quinlan consortium. At almost the same time AIB sold and leased back its Ballsbridge HQ in two lots. The first lot was sold to a Sean Dunne consortium and leased back on a twenty-year lease with a break clause. The second lot was bought by Hibernian Life and Pensions and let to AIB for twenty years.
Even as Bank of Ireland and AIB were unloading their own properties, they were lending wildly to high-flying developers. Did they have an in-house view on property? Were they selling their own commercial property simply to lend the proceeds on to builders? It was a game of contradictions.
Even more striking were the contradictions in the auctioneering world. While all estate agents were still making loud noises about the attractions of Irish property, some were quietly selling their firms to outsiders. In August 2005 the Gunne family sold its commercial property division to CB Richard Ellis for €20 million. A year later Gunne Residential was bought by its management in a €7 million deal. Managing director Pat Gunne was cashing in his chips at the right time.
He was not alone. Other giants, while puffing up the properties in their brochures, were selling their stakes. Hamilton Osborne King (HOK), the largest commercial property agency in Ireland, sold out to the UK’s top-notch property consultants Savills in June 2006. The HOK partners netted a cool €50 million in a deal that twelve months later looked like a stroke of genius.
Within twenty-four hours of the HOK sale, estate agent Jackson-Stops announced the disposal of a 60 per cent stake to Colliers CRE, one of the globe’s biggest property co
nsultants, in a deal worth €4.8 million.
And if the world needed any further warning that insiders were deserting the Irish property market, Ireland’s most successful property enterprise of the decade changed hands. In July 2006, six weeks after the HOK and Jackson-Stops deals, the Irish Times bought MyHome.ie for a breathtaking €50 million. Having been set up in 2001, MyHome had achieved 300,000 users a month by 2006. Six months later the market turned and the value of MyHome.ie plunged with it.
The identity of the sellers should have raised the alarm bells. Auctioneers Sherry FitzGerald with 23.5 per cent, Gunne with 19 per cent and Douglas Newman Good with 19 per cent, all exited this venture with pockets bulging courtesy of the Irish Times, one of their main advertising outlets. The other leading shareholder, with 18 per cent, was none other than AIB. The bank took the money and ran.
Auctioneers were flogging their businesses to UK property companies, banks were selling their own assets to property developers and everybody was selling to the Irish Times. Did we not get the message? Insiders were speaking out of the sides of their mouths, but voting with their feet.
8. The Gathering Storm
Although the idea that the good times could last defied logic, government and bankers spent 2007 urging citizens and customers not to panic. In fact, 2007 was the year Ireland should have panicked.
One fly in the Irish ointment in 2007 was electoral politics. Two political complications obstructed the right route for the economy. The first was the general election. The second was the political ambition of the Minister for Finance, Brian Cowen himself.
Cowen was a popular member of the Fianna Fáil parliamentary party. Gregarious, a highly entertaining companion, in 2007 he was red-hot favourite to take over as party leader – and thus, if the election were won, as Taoiseach – from Bertie Ahern.
Part of the reason for his almost unchallenged position as heir apparent was his clubbable nature. The so-called ‘bar lobby’ in Leinster House was 100 per cent behind him. He was part of the high-living, race-going set. With an all-party group of TDs he was part-owner of an Oireachtas racehorse, a frequent winner called Arctic Copper. Cowen knew how to enjoy himself, especially in the company of Fianna Fáil TDs. His rough-diamond manner and his gruff conversational style earned him kudos with the Fianna Fáil troops. Contrary to his image he laughs a lot and people of all parties like him. He is a wicked mimic.
Yet as Minister for Finance he suffered from a fatal weakness. He wanted to be Taoiseach. To be Taoiseach, first he needed to be leader of Fianna Fáil. To be leader of Fianna Fáil, first he needed to be popular among his TDs and senators. To be popular among his TDs and senators, first he needed to be a generous Minister for Finance. He was.
Cowen’s predecessor, Charlie McCreevy, was often asked if he would like to be Taoiseach. He always gave the same reply: that he would love it, but it would never happen because he could not bear to be leader of Fianna Fáil. McCreevy never curried favours with his TDs. Consequently it was easier for him to take unpopular decisions, when necessary.
The government spent at record levels in the run-up to the 2002 election. Then, the ballot boxes were hardly opened before McCreevy set about remedying the extravagance by imposing spending cuts, stymieing his fellow cabinet ministers’ plans for continued extravagance. On 4 December 2002, according to The Economist magazine, McCreevy ‘delivered the country’s toughest Budget in years, raising taxes, cutting spending in real terms and keeping borrowing low’. This despite McCreevy’s pre-election claim that ‘no cutbacks are being planned’.
The cuts made the government unpopular. When Fianna Fáil polled poorly in the European and local elections of 2004, McCreevy was blamed by fellow ministers and backbenchers. Just three days after the results the Irish Independent led with the ominous headline ‘Knives Out For Mac’. The media had been reliably briefed by sources close to the Taoiseach that McCreevy’s refusal to loosen the purse strings was the reason. The backbenchers, jittery from the bad results, wanted Charlie out. Bertie responded and the Minister for Finance was packed off to Brussels. Brian Cowen was installed in his place.
Cowen would have been acutely aware of McCreevy’s fate. He spent his four years as Minister for Finance nursing his base and mucking in with the troops. He ate in the Leinster House dining room with the Fianna Fáil rank and file; McCreevy by contrast had tended towards the cabinet dining room. Cowen’s period as Finance Minister was marked by inaction at a time when the economy was boiling over. He was disinclined to upset any of the footsoldiers by introducing unpopular measures of the McCreevy type. Most of all, he did not want to annoy the champion of consensus, Bertie Ahern. McCreevy, on the other hand, had positively taken pleasure in it.
Critics accused Cowen of paralysis ahead of the succession battle. Others said he merely took his orders from civil servants in the Department of Finance in his determination to make no mistakes. In any case the leader-in-waiting’s tactics of keeping the lid on the economy’s problems worked, at least in terms of his own ambitions. The feelgood factor lasted until the general election of 2007 and Cowen was credited with winning the election for Fianna Fáil. Either he was blissfully unaware of the disaster round the corner or he did a good job of hiding it from the Irish people. He fought a robust campaign for Fianna Fáil at a time when Bertie had been weakened by damaging appearances at the Mahon Tribunal. For much of the campaign Cowen seized the initiative and cut a commanding figure, reassuring the nation that the economic future was bright.
By the time the election was won, the property market had already cooled. Part of the slowdown was credited to Progressive Democrat party leader Michael McDowell. Seeking an early election platform in September 2006, McDowell had proposed dramatic reductions in stamp duty for house buyers. In typical McDowell style, he had insisted that the Exchequer did not ‘need’ the revenue from stamp duty – quite a bold claim, as stamp duty returns from land and property amounted to €3 billion. Not a sum to be sniffed at, but the PD leader’s cavalier attitude reflected precisely the nation’s assumptions of predestined prosperity. The suggestion by the leader of the junior party in the governing coalition that stamp duty cuts may be in the offing did not cause property prices to fall immediately, but the volume of transactions virtually froze as buyers held back in anticipation of the change.
McDowell lost his seat in the general election, and his party was obliterated; but he had made stamp duty an election battleground. Fine Gael and Fianna Fáil felt compelled to trump the PDs’ proposals. During the campaign a reluctant Cowen had been forced by Ahern to promise an end to stamp duty for first-time buyers – a move that was sold to the younger electorate as a means of bringing down prices, and to the builders as a way of kick-starting a flagging housing market.
The stamp duty debate proved a red herring. The property market was already beating a retreat as Cowen rose to his feet in the Dáil on 26 June 2007 to keep his stamp duty promise, but he was comfortable in cloud cuckoo land. His speech to the Dáil that day gave numerous hostages to fortune. He assured the assembled TDs that ‘the fundamentals remain sound’ in the Irish economy. They were far from it.
He declared that ‘our economy will continue to out perform most of our peers’. It didn’t.
The Minister for Finance went on: ‘Our economy is set fair to enjoy strong growth rates over the medium term.’ But the economy was already heading for the rocks. In 2008 it contracted by 3 per cent.
Cowen even declared that ‘our economic success in recent years ensures that we can face any future economic challenges from a position of strength’.
Richard Curran was proved right within months. Cowen’s hostages to fortune had already been shot before Christmas. So much for the benefits of tinkering around with stamp duty. The problem ran far deeper.
Worrying developments in the world economy as 2007 progressed should have stood as a useful warning to the Irish government about how a property crash could cascade into a full-blown economic and pol
itical crisis. Instead, the global turmoil was treated as an exotic problem not directly relevant to Ireland, or, increasingly, as an excuse.
Banks in the United States, competing for business and trying to expand their markets in the middle of a housing boom, had lent money to people who wouldn’t historically have been considered safe credit risks: ‘sub-prime’ borrowers. Many of these sub-prime loans were bundled into complex ‘securities’ and sold on to other financial institutions by the original lender. Securities contaminated with high-risk mortgages were treated by the credit-rating agencies as though they were the safest financial products on the planet: they generally received the highest possible safety rating. If banks wanted short- or long-term money to fund their crazy gambles, they could always borrow the shortfall from the interbank market. But when the US housing market turned, sub-prime mortgages (and other loans) went into default, and AAA-rated securities were suddenly revealed as toxic, the banks stopped trusting one another and the interbank market dried up, a state of affairs known as the credit crunch.
As far back as February 2007 HSBC bank announced larger than expected sub-prime mortgage defaults. It was an early warning sign. In April New Century Financial, one of the largest US sub-prime mortgage lenders, filed for bankruptcy. In May US Federal Reserve chairman Ben Bernanke told the world not to worry about the growing number of mortgage defaulters. By June two of Bear Stearns’ hedge funds were in difficulty, but hedge funds had collapsed before and they would collapse again. No one lost much sleep.
Gradually the sub-prime problem spread. Toxic assets were popping up on the balance sheets of banks and hedge funds around the world. Major Wall Street firms like Merrill Lynch, JPMorgan Chase, Citigroup and Goldman Sachs were in trouble.
The demise of Northern Rock in September 2007 should have shaken Cowen to his roots. Northern Rock, Britain’s ninth biggest bank and fourth largest mortgage lender, was the UK’s first victim of the global credit crunch. Northern Rock had a small customer deposit base and depended on wholesale money markets for most of its funds. The credit crunch had almost closed this source of funding. The Bank of England was forced to ride to the rescue and provide emergency funds to keep Northern Rock going.
