Cost of stimulus packages much less, says study

The true cost of a government economic stimulus package is substantially less than has been estimated to date because of the bank guarantee, according to new research from the Central Bank.

The research estimates that a €2 billion capital spending package would save the State €663 million within two years because of the positive effect it would have on the numbers defaulting on their mortgages.

It said that further uncalculated savings would also apply by way of the improved performance of loans to SMEs and other business loans.

Extra taxation

Estimates of the true cost of government stimulus packages regularly take into account the amount of extra taxation that arises as a result of the stimulus. The authors of the Central Bank report, Robert Kelly and Kieran McQuinn, said the fact that the State, by way of the guarantee, is responsible for the capitalisation of the banks means there is a second channel back to the State from a stimulus package.

Mr McQuinn, an economist, told a conference in Dublin yesterday on how to fix distressed property markets that it also followed that austerity measures had a negative effect on mortgage loans and added to the burden of the State’s support for the banks.

He said he and Mr Kelly, were struck by the strength of the relationship between unemployment and house prices.

The level of unemployment appeared to more accurately track house prices than many other more commonly used proxies.

He said the Central Bank study looked at projected unemployment rates, house price rates and loan default rates and, using the ERSI’s Hermes model, at how these would be affected by a €2 billion capital spending stimulus package.

The study found unemployment would be approximately half a percentage point lower at the end of 2014 as a result of the stimulus package at 13.5 per cent. House prices would be almost 2 per cent higher.

Mortgage books

This, in turn, would result in projected losses on the banks’ mortgage books of approximately 7.5 per cent, as against 8 per cent without the stimulus package.

This small drop in percentage terms would constitute a large amount of money given the size of the mortgage books.

The estimate is that the savings involved for the banks would be €663 million. Of this, €303 million would come from primary-dwelling mortgages and €360 million from buy-to-lets.