Before Ireland began the property scam the lending policy of building societies protected both the borrower and the building society from folly.
Some time ago I wrote here (https://colummccaffery.wordpress.com/2010/06/11/house-prices-available-mortgages/) about the “traditional” mathematical formula used by building societies to link the size of a loan to the borrower’s ability to pay. This formula [(Annual salary A X2.5) + Annual salary B = 75% of the value of the house.] was used in my piece to calculate the sensible price of housing as opposed to the market value of housing. The latter is determined by whatever the purchaser is prepared to pay and was grossly inflated when banks and building societies abandoned the socially responsible and commercially viable formula and made crazy loans available.
This brings me to the point of this piece. The conventional formula could now be used to differentiate between sensible businesslike lending and foolish behaviour.
When a foolish loan was agreed, there were of course two parties to the foolishness: the lender and the borrower. It is certainly true that borrowers behaved foolishly. They too could see that repayments – even if everything remained fine for them on the income front – were incompatible with comfortable living. They were, however, driven to excess by fear of rising prices and constant media and family advice to “get on the property ladder” at all costs. In short, they are responsible for their actions and they will pay for their foolishness for a very long time.
The lender is responsible too. The lender is responsible for knowingly and foolishly lending more than could be repaid while living reasonably well. The lender tempted and lured the foolish borrower.
Look at it this way. Reasonable living dictates that mortgage repayments do not constitute a crippling outflow of money each week or month. If a building society or bank lured a borrower to the extent that he/she abandoned common sense and borrowed far too much, the lender should be penalised by the amount of the excess. The excess can be calculated by reference to the pre-madness policy, i.e. by using the “traditional” formula.
Let’s turn to the question of money. Let’s consider a well off couple both with good jobs seeking a mortgage at the height of the scam: One has an income of, say, €40k p.a. and the other has an income of, say, €30k p.a. Let’s refer to the first as A and the second as B. Now remember that traditional formula: (Annual salary A X2.5) + Annual salary B = 75% of the value of the house.
Right let’s apply figures: (40k X 2.5) + 30 = 130k
What this indicates is that at the time the loan was agreed, any bank or building society which lent in excess of €130k to a couple with a combined income of €70k p.a. was behaving foolishly and could not possibly have expected the loan to be repaid. That they were aware of what they were doing is evidenced by the existence of the earlier prudent lending policy expressed in the “traditional” formula.
If we are talking about debt forgiveness or write-downs of mortgages, a sensible approach would be to go back to the loan application, look at the stated income/s and calculate the maximum loan that a sane, commercially minded lender would have advanced. It is now a matter of striking the value of the mortgage debt down to this figure. It could then be increased by, say, 10% in order to penalise the stupidity of the borrower.
None of this takes account of how the lenders will cope with the reduced value of the loans on their books. This, however, is true of any measure of debt reduction. What the proposal here does do is root a system of debt forgiveness/reduction in a clear and previously existing policy which worked for years and whose purpose was to protect the lender and the borrower from greedy madness.