Debt Monkey

Click on graph for larger image in new window.

6. Conclusions
In the years immediately before and after EMU membership,
Ireland experienced very high rates of growth in PSC. This was a
logical outcome in a situation of strong growth in real GDP and a
move to a regime which was seen as bringing about a permanent
reduction in real interest rates. While very rapid credit growth
naturally raises concerns about the stability of the financial
system, it may also have had beneficial effects in terms of real
economic growth. The challenge is in keeping the balance right.
The results from the benchmarking of Irish PSC against other
euro-area countries are, on balance, reassuring; Ireland is not an
outlier. The central comparison with the rest of the euro area, in
terms of the ratio of PSC to GDP, found that we are part of a
mid-ranking group of countries which includes Austria, Germany,
Luxembourg and Spain. Nor is the proportion of credit going to
households excessive. On the euro-area benchmark, Ireland still
ranks seventh in terms of the share of PSC accounted for by
households. This suggests that at the overall level risks in Ireland
are no greater than elsewhere. Some individual borrowers, and
perhaps lenders, may be behaving imprudently and
developments must be monitored, so as risks in these areas can
be identified.
A favourable position emerges in terms of the present cost of
credit to the household sector. Two factors influence this: first, in
Ireland a high proportion of personal credit is secured on
residential property; and, second, a large portion of lending for
housing is at variable interest rates at a time when short-term
interest rates are at historically low levels. This latter point
contains the ‘sting in the tail’. It means that the exposure to
interest-rate changes is greater here. If and when short-term
interest rates rise, the cost of household borrowing in Ireland
would be expected to increase more quickly than that in many
other euro-area countries.
The vulnerability of Irish households to higher interest rates is
amplified by the marked rise in the ratio of household credit to
personal disposable income in recent years. Aggregate personal
indebtedness is now approaching 100 per cent of disposable
Quarterly Bulletin Spring 2004
144
income and rising fast. The larger stock of personal debt means
that consumer expenditure will be more sensitive to fluctuations
in income, especially arising from unemployment and interest
rates. While the greater vulnerability of the Irish economy to
increases in short-term interest rates is not of immediate concern,
as debt levels increase in absolute terms so do the risks to growth
from either a tightening in monetary policy or a slowdown in
economic activity. Certain areas of the housing market have
been identified by the IMF as being particularly exposed to such
developments (IMF, 2003). This underlines the need for vigilence
and prudent lending practices if the beneficial effects of past
credit growth are to be retained.
The acceleration in the growth of PSC in recent months is also
of concern. Following modest growth in 2002, the annual
adjusted rate of PSC growth strengthened last year and reached
19.3 per cent in February 2004, over three times the euro-area
rate of 5.8 per cent. While our end-2003 position within the euro
area was comfortable, there is a limit to the extent that Ireland
can sustain rates of credit growth which are a multiple of the
euro-area average. If such differences were to persist, Ireland
could become an outlier within a few years.

Irish Central Bank