State should back away from home loan insurance

Reports suggest that the Central Bank initiative to restrict banks to lending 3.5 times income and only 20pc of the value of the property, may be offset by government intervention.

One way of intervening without overly negating the financial stability plans of the Central Bank is to opt for some kind of mortgage insurance scheme. The idea is that first-time borrowers could borrow more than 80pc of the value of the property because around 10pc of it would be insured by the bank.

This passes some of the risk, in the event that things go wrong, away from the bank, while also allowing the borrower to get on the property ladder. At first glance, it looks like a win/win and a very clever idea.

In fact, it is such a clever idea that it has been done before in Ireland – but with a couple of big differences. Before the early noughties when banks and borrowers went completely bonkers on mortgage lending, banks used to take out insurance on part of the mortgage. It was seen as a prudent measure to reduce risk.

The insurance tended to be taken out with a third-party private insurer. But then, in the hubris of the period, banks stopped doing it. They began lashing out 100pc mortgages with no insurance.

One bank that stuck with mortgage insurance was KBC Bank Ireland. It emerged in 2008 when the market crashed, that KBC Ireland, owned by the Belgian KBC group, had continued to insure a portion of mortgages over 80pc loan-to-value.

KBC management in Belgium disagreed with the Irish management at the time over mortgage insurance. In Dublin, they were worried about losing their market position as rivals threw around 100pc mortgages. The parent company believed that if the Irish operation was going to give out mortgages of greater than 80pc LTV, then insurance should be taken out on the products.

KBC chief financial officer Herman Agneessens said back in 2008 that the executives in Dublin felt that the KBC LTV policy was “overly conservative” in recent years, but the parent insisted that it be maintained.

KBC lost its shirt in the property crash, as did every other Irish bank. However, it is still in the Irish market and has plans to grow its business here. Perhaps that has been helped by the fact that its losses would have been greater if it had not stuck with the policy of mortgage insurance.

Any discussion around the past and how mortgage insurance might have worked, has to be examined in the context of what the Government is looking at now, and what the attitude of the Central Bank might be to those proposals.

Reports suggest that the Government is looking at a mortgage insurance scheme provided by the State.

This would be a mistake. After everything that people have gone through, providing this kind of state subsidy to the housing market is not what we need.

The State should spend its money building houses to help relieve the rental market crisis rather than providing incentives of this kind. The way mortgage insurance used to work was that banks insured a portion of the mortgage and the customer contributed to the cost of it.

But what would the Central Bank make of such a scheme? When it announced it consultation process on mortgage lending caps, it discussed the kind of exceptions that might apply to the 80pc LTV and 3.5 times salary rules.

The three exceptions proposed were: people switching mortgages; people in arrears; and people in negative equity using a particular negative equity mortgage to move to a more suitable home.

They didn’t propose mortgage insurance as something that would constitute an exception to their proposals. They did mention lenders receiving some kind of guarantee or insurance to offset part of the mortgage, saying: “This would likely need to be a high-quality guarantee, for example, provided by a highly rated financial intermediary and payable on first demand.”

They went on to say that involving a mortgage insurance guarantor could improve loan underwriting and could protect the lender against default, but “permitting such an exemption would weaken the effectiveness of the macroprudential measure as a tool to dampen the pro-cyclical credit-price dynamics.”

In other words, the Central Bank wants to introduce mortgage caps to help keep the financial system stable and reduce the risk from shocks. Mortgage insurance might help reduce the risk in the event of a shock, but might not do anything to help prevent house prices rising to levels where a shock could occur in the first place.

The Central Bank wants not only to protect banks and customers in the event of a crash, but it wants to use these new measures to break the perpetual boom/bust cycle.

The Central Bank also gave a cold shoulder to the Government in the document by adding that any such scheme would need to be carefully thought through in terms of its potential “for resulting in fiscal costs as well as the risk that it could exacerbate housing price dynamics.”

The Central Bank knows the Government is considering this kind of scheme and appears to lay down a clear marker that it would have to be approved by the Central Bank, and Dame Street doesn’t like the look of it.

The Government committed to examining some kind of scheme in its Property 2020 strategy document, which states that it would study similar schemes abroad and report to the Cabinet Committee on Mortgage Arrears and Credit Availability in November.

One negative effect of the Central Bank proposals is that it will force more people to remain in rented accommodation for longer, as they try to save for a deposit on a house. It is up to the Government, not the Central Bank, to examine policy options to help many young families suffering from soaring rents.

The rental sector is perhaps more in need of attention and remedies than first-time buyer problems.

The rental sector is becoming more and more important in Ireland as 29pc of households are now renting, compared to 22pc in 2002.

After seven years of crash and survival, it seems we are now genuinely at a real crossroads in relation to the future of the property market. It is vital that we do not repeat the mistakes of the past.

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