ECB real estate euphoria in the eurozone

Economic outlook - 10/12/2016

The ECB was decisive in the upturn in the real estate market in the eurozone.


Most countries having undergone a burst of the real estate bubble have returned to increases in house prices. In the United States prices have been increasing for four years now and they are now also rising in the eurozone (+3% at the beginning of 2016). In China the situation is more unstable despite the intervention of the monetary and governmental authorities. Reduction in household debt and the scale of the non-conventional monetary policies led to an expected return to upward movement in the real estate markets. But the importance of the cleaning up of the banking systems in the United States and, later, in the eurozone, must not be underestimated. Rises in real estate prices should increase in the eurozone and construction contribute positively to growth over the coming quarters.

The upturn in real estate could gain momentum

According to the latest opinion poll of commercial banks by the European Central Bank (ECB), growth in mortgage demand has never been so dynamic since the creation of this poll in 2003. Although the renegotiation of loans explains one-third of the new loan applications, the overall increase is over 2% whereas they were in decline at the end of 2014.  The increase is particularly significant in Germany, but also in Spain, which is more surprising. In France the combination of the fiscal measures, the change in direction of housing policy and the historical drop in borrowing interest rates has sustained mortgage demand. Furthermore, the drop in the past in average housing prices of almost 5% between 2012 and 2015 gave purchasing power back to households. The risk premium which measures the return discrepancy between a real estate rental investment and a risk-free purchase of an asset is positive.

"Growth in mortgage demand has never been so dynamic since 2003."
Mathilde Lemoine - Group Chief Economist


Over the coming quarters certain monetary authorities, in particular the Bundesbank, may be concerned about the acceleration in real estate prices and implement macro-prudential measures. It would thus follow the example of the Swiss National Bank which has required commercial banks to constitute additional equity. However, mortgage conditions should remain particularly favourable. Indeed, the ECB considers that real estate prices are under-evaluated on average in the eurozone, in particular in Italy, in Spain but also in France. Its negative interest policy will therefore continue to spur real estate lending by resolving house needs.

 Real estate borrowing interest rates


The global economic cycle is increasingly decisive

Of course national real estate markets change on the basis of specific factors. Moreover, major events may lead to a disconnect in their trend in relation to an international trend. For example, the United Kingdom vote to leave the European Union may lead to a drop in house prices of 10% over the coming year. However, real estate prices are also determined by macroeconomic variables sensitive to the international environment such as variations in interest rates, growth in GDP and loans or changes in asset prices.

According to econometric studies carried out by the IMF in 18 countries, a third of the national growth in real estate prices is attributable to global factors compared with only 20% during the 1990s. Their impact is even more significant insofar as the financial integration of the country is significant. However, apart from the United States, all the major central banks of developed or emerging countries have chosen to go even further in the reduction of interest rates and supply of liquidity in response to weakness of global growth. Such a monetary policy is a decisive factor in the demand for mortgages in a context of falling unemployment, even if it remains modest. Moreover, the spread of negative interest rates to increasingly long bond maturities is increasing the risk premium and thus an encouragement to invest on the real estate market.

According to our forecasts, real estate prices should continue to rise in Germany and Spain and accelerate in France and in Italy

Consequently, according to our forecasts, real estate prices should continue to rise in Germany and Spain and accelerate in France and in Italy despite the prospects of the presidential election and the difficulties encountered by Italian banks. Local tension related to the insufficiency of the housing supply will only reinforce such a trend.



Focus: Monitoring monetary policy

Changes in key rates have an impact on the real estate markets which has been widely demonstrated. In parallel, the central banks have developed other means for influencing movements in mortgages.

For example the UK central bank decided in July 2012 to provide liquidity to the banks and construction companies on the basis of their loans to the economy whereas its key rate was 0.5%. This initiative improved the conditions of loans and led to a significant increase in mortgages. However, to limit the rise in real estate prices, the Bank of England decided to reserve this supply of liquidity to finance companies who lent to SMEs.

As for the ECB, it included in its programme construction company bonds which improves their financing conditions. It nonetheless decided to exclude mortgages from the loan amounts on which it will determine the conditions of supplying liquidity to the banks. This direction of its monetary policy will not prevent a continued increase in mortgages and thus of prices in the eurozone but it should rein in its acceleration.

Thus, in the face of deflationary pressures, the central banks have decided to track more closely movements in mortgages via their non-conventional policies. At the same level of interest rates, they are now limiting the rate of growth in loans. This non-conventional policy must, therefore, be integrated into real estate investments.

 The central banks may also implement so-called macro-prudential measures in order to directly influence the commercial banks’ lending policy. These measures may consist of increasing the proportion of equity required for a loan, limiting the amount of the loans based on the value of the property or increasing equity. It seems however very unlikely that the Bank of France implements such measures before the presidential elections.