Tom McEllistrim (Kerry North, Fianna Fail)

With thousands of citizens currently in arrears on their mortgages and thousands more on reduced payments, is it not time to investigate better mortgage systems and devise a system for this country that will ensure a more stable and secure long-term financial environment for our citizens?

We all know the difficulties in the banks and the great lengths to which the Government is going to fix the problems in our financial institutions and to ensure that their essential services to the economy and the country are fully restored. However, it is incumbent upon us to look at the difficulties faced by mortgage holders who have suffered great uncertainty throughout this crisis. While there is an urgent need to help people in the short term we should also look to better long-term solutions for mortgage holders, the banks and the economy. While the current situation has required serious and immediate action in an effort to get the banking system working properly again, we must also look to the long term and develop a mortgage system for the citizen, who is more than just a consumer or customer. For the sake of our citizens we should look at how they can be best protected while at the same time devising a model that works for the banking system. When we finally see "normality" return, we need to ask ourselves if the system that has let us all down should be restored or whether the mortgage system should be reconstructed on a sounder, fairer and more stable basis.

One system that has been mentioned internationally is the Danish model. This is a system which has advantages and disadvantages but which has been seen to militate against the occurrence of negative equity. It has stood the test of time. The Danish model has withstood many tests since it was brought into existence after the great fire of Copenhagen in 1795. The Danish economy has experienced contraction but the resilience of its mortgage market means that it remains the best performing in Europe during the current crisis. There is no record of a mortgage bank defaulting on its payments in Denmark and some commentators have suggested that Denmark offers a model mortgage market in that it shows that there is a safe way to securitise home loans.

This is, apparently, mainly attributable to its legislative framework which has put great emphasis on the protection of the mortgage bond investor by imposing strict limits on the risk taking of the mortgage banks leading in turn to conservative lending practices. The strength of the system is low origination cost, the absence of sharp practice and complete transparency. Denmark's €490 billion mortgage bond market, the third largest after the United States and Germany has proved resilient during the global financial crisis.

At the core of the Danish system are seven mortgage banks that specialise in making mortgage loans. They fund their loans by selling bonds in the capital markets. The bonds are in all major respects identical to the mortgage loans they fund. What the Danes call the principle of balance means that every mortgage is instantly converted into a security of the same amount and the two remain interchangeable at all times. For example, if I borrow €200,000 for 30 years at a fixed rate, the loan would be placed in a large pool of 30-year, fixed-rate loans that serve as collateral for an equal amount of mortgage bonds held by investors. The mortgage bank would sell on my behalf an additional €200,000 of these bonds in the capital market and credit the proceeds to me. As I repay the loan, the mortgage bank passes along the payments to the bondholders in proportion to the amount of the total pool they own.

Mortgage banks are not exposed to interest rate risk from funding long-term assets with short-term liabilities. The Danish system is built on the principle of "match-funding", meaning that mortgages are funded with bond issues that have the same characteristics as the mortgages. Borrowers in Denmark can refinance by buying back bonds in an amount equal to their mortgage balance, at par or market, whichever is lower. When market rates go down they buy at par to take advantage of the new lower rate. When market rates go up, they can stay put, or they can refinance by buying back bonds at the depressed market price. They realise a capital gain in exchange for accepting a new higher rate on their loan.

The disadvantage is that loans are not priced for risk, so borrowers with poor credit are not served. Borrowers must also have a 20% deposit to put down. While house prices declined in Denmark during the crisis, negative equity did not become a problem because the great majority of borrowers had substantial equity in their homes when the crisis struck. That was a major reason the rise in defaults in Denmark was small and manageable.

The Danish financial system has been impacted by the worldwide loss of confidence in financial institutions and the associated liquidity squeeze. In 2008 the Danish Government guaranteed the unsecured creditors of all banks, including the mortgage banks. However, the guarantee did not include mortgage bonds, because it was not considered necessary.

There may be other systems around the world worth examining, but we should look to develop a system that will be of long-term benefit to our people and which ultimately would help to prevent the kind of crisis we are now experiencing. The Government, the Dáil, the Central Bank, the Financial Regulator and other bodies may have valuable insights to provide on developing a citizen-friendly mortgage model.

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