Reports that the Central Bank has directed three of our main financial institutions to tighten up their mortgage lending policies should be a cause for concern. The very fact that major lending institutions have behaved in so short-sighted a manner as to draw official strictures from the Central Bank is bad enough; but the underlying worry that a property bubble and its accompanying "negative equity" might emerge to threaten the health of the banks and building societies in the event of a downturn in the economy should bother us all.
During the course of the past two years, as house prices soared in the Dublin region, the Central Bank expressed disquiet over the inflationary tendencies being unleashed and about the impact such increases might have on wage demands. Its comments appeared to have had little effect on the open-handedness of the lending institutions as they competed aggressively for customers.
Since then, membership of the euro has added to the difficulties by removing the power of the Central Bank to quell inflationary pressures and control excessive borrowing by increasing interest rates. Its powers now relate to jurisdiction over the health of loan portfolios and how they might affect the banks or building societies, particularly in the event of an economic downturn. Concern about prudential supervision and worry that loan portfolios might not be able to cope with an economic downturn allows the Central Bank to direct a change in lending policy. This has now been done in relation to a number of branches and institutions. And a more assertive approach has been promised by the regulatory agency over the coming weeks.
It would be reassuring to think the lending institutions will respond in the fashion required by the Central Bank. But past experience allows for no such confidence. Formally, banks and building societies lent 2.5 times the main income, plus once any second income, to clients. Anecdotal evidence, however, points to 100 per cent house loans being provided to favoured customers, with multiples of three to four times salary being provided for higher earners. The effects are readily visible in escalating house prices. And while a temporary price slowdown emerged towards the end of 1998, following Government action on the original Bacon Report, figures from the Irish Permanent - the largest mortgage lender in the State - show that prices accelerated by 1.7 per cent in January. That development brought the rise in average house prices to 29.2 per cent for a twelve month period and re-ignited concern over the growing gap between house prices and average incomes.
Earlier this week, Mr Bacon presented his second report to Government and argued against policies designed to engineer a broad reduction in new house prices. A negative equity scenario, he held, could result in a vicious circle of downward spiralling prices and spill-over into wider economic recession. The aim, the report said, should be to achieve stability in the overall housing market. In that regard, he suggested there should be no change in official lending policy until evidence emerged of a general easing of supply pressures. So far, such confirmation is sadly lacking. That situation may begin to change in the autumn when new homes come on stream. As things stand, however, the Central Bank should be encouraged in its efforts to dampen down house price inflation by insisting that lending institutions adhere to mortgage lending guidelines and thereby meet their social obligations.