2030: The future of the Irish residential market DATE 26th June 2019 VENUE National Housing Conference, Stillorgan, Co. Dublin AUTHOR Kieran McQuinn

Outline of presentation Future trends in housing activity and finance Assess future affordability pressures in the market Based on current trends 18 July 2019

Future trends in housing activity and finance Addresses two-related mortgage market issues Long-run housing demand Closely related to demographics Using the model generate Forecasts of future housing demand Based on COSMO Assess implications for the banking sector Sizeable increase in credit/balance sheets Policy issues which arise? 18 July 2019

Irish Housing and Financial Sectors: From the mid 1990s onwards Emergence of the Celtic Tiger Prompted significant increase in housing market activity Initial activity warranted by economic fundamentals From the early 2000s credit market developments became more prominent Ability of Irish financial institutions to borrow from abroad.

Model of Long-Run Housing Demand: Builds on earlier research Duffy, Byrne and FitzGerald (2014) Using micro-data, they look at Household formation and tenure choice They estimate a measure of realised demand Over time (1982 – 2015) We examine relationship between Activity and structural demand

Structural Demand and Housing Activity Units

Short-Run Models of Housing Demand: Estimate error correction model (ecm): Based on long-run model Also include short-run dynamics for Prices and interest rates. Use the ecm To generate forecasts of activity levels Key variable: Forecast of future demographic trends COSMO forecasts

Household Formation Forecasts Units

Actual vs Structural Demand Units

Irish Banking Sector - Background Liquidity problems of Irish banks faced Heavy reliance on short-term money market funding, Funding base that is more deposit-based Loan-to-deposit ratios introduced as part of CBI (2011) Basel III greater reliance on stable funding Crucial assumption: COSMO: deposits are assumed to grow with GDP Lending in excess of this growth rate Funded from non-deposit sources?

Housing Investment and Housing Stock

Required level of credit (€ bns)?

Funding Requirements of the Banks? Required expansion in credit = Similar expansion in funding liabilities. This may take the form of Higher levels of retail deposits, short- and long-term debt securities, or Levels of capital. COSMO: Retail deposits assumed to grow in line with GDP while, Capital levels determined by features of the banking sector Size, its exposure to the real estate sector and profitability. Remaining liabilities of the banking sector are treated as a residual.

Projected levels of Deposits and Capital (€bn), and the Loan-to-Deposit Ratio

Financial Sector Implications Regulatory developments impact on banks funding? Net Stable Funding Ratio (NSFR) A share of liabilities to be of more medium/long-term duration Issuance of covered bonds Debt securities backed by cash flows from the issued loans. Typically cheaper than other types of non-secured funding Bonds are treated as high-quality collateral by the ECB.  Required funding achieved through Entry of foreign banks into the Irish retail banking sector. Access to stable medium- to long-term funding via parent

Real Economy Implications Higher level of residential investment Implies a higher level of demand relative to the baseline. Output gap is 0.3 percentage points higher Fiscal intervention in the form of Higher personal/ consumption taxes or Reduced government spending. Irish household sector may not be able Fund the necessary housing investment Greater role for the rental sector? With substantial equity injections, possibly from outside Ireland

Affordability: Over the period 2005 – 2015 Document housing affordability trends for Irish households split by age, region, household structure and their position in the income distribution Evaluate the suitability of international definitions of high housing costs in an Irish context Policy implications? 18 July 2019

Survey on income and living conditions (SILC) EU-SILC Collects a wide array of household variables From Member States. 4500-5500 households surveyed each year Primary focus is to collect information used to derive indicators of poverty, deprivation and social exclusion Contains information on home ownership, details of mortgage debt, monthly mortgage instalments, monthly rental payments and income 18 July 2019

Measures of housing affordability 𝐻𝑃𝑇𝐼= 𝐻𝑜𝑢𝑠𝑖𝑛𝑔 𝑃𝑎𝑦𝑚𝑒𝑛𝑡 𝑁𝑒𝑡 𝐼𝑛𝑐𝑜𝑚𝑒 𝑀𝑅𝑇𝐼= 𝑀𝑜𝑟𝑡𝑔𝑎𝑔𝑒 𝑃𝑎𝑦𝑚𝑒𝑛𝑡 𝑁𝑒𝑡 𝐼𝑛𝑐𝑜𝑚𝑒 𝑅𝑇𝐼= 𝑅𝑒𝑛𝑡 𝑃𝑎𝑦𝑚𝑒𝑛𝑡 𝑁𝑒𝑡 𝐼𝑛𝑐𝑜𝑚𝑒 18 July 2019

Housing payment to income ratios 2005-2015 Figure: Housing Cost to Income Ratios 2005-2015 a) By Distribution b) By Tenure 18 July 2019

Housing payment costs by income quartile Figure: Housing Payment to Income Ratios by Income Quartile a) Mortgaged Households b) Private Renter Households 18 July 2019

No formal definition in an Irish context High housing costs No formal definition in an Irish context Apply 2 “rules” in international literature 30% of income benchmark 30/40 - 30% of income plus in lowest 40% of income distribution Identify the share, and composition, of households defined as “high housing cost” by these measures 18 July 2019

High housing costs - 30% benchmark Figure: Share of Households Above 30% Benchmark a) By Tenure b) By Income Quartile 18 July 2019

High housing costs – 30/40 measure Figure: Share of Households in 30/40 Group by Tenure 18 July 2019

Summary of findings & future implications? Certain groups do face significant affordability challenges Rental sector in Dublin Difference between the low income households, and the rest Widened over the period 2005-2015, Housing affordability inequality has grown Lower income, private renters, single adult households Face a higher ratio of housing costs to income If the future sees more people renting Affordability pressures set to increase? 18 July 2019