ECB warns of possible corrections in overvalued real estate markets

The European Central Bank (ECB) warned of the risk of corrections in the real estate markets of some countries in the euro area that are overvalued.

In its November 2021 financial stability report, the ECB says that “economic recovery in the euro area has reduced short-term risks to financial stability related to the pandemic”. But “the risk of price corrections has increased in some real estate and financial markets”.

During the pandemic, demand for housing has increased and signs of overvaluations are increasing in the residential housing markets of some countries, the report said.

“House prices in the euro area have risen at the fastest pace since 2005 in the second quarter of 2021″ Because many home loans have been made, some too easily because interest rates are so low, according to the report.

But the vice president of ECB, Luis de Guindos, warns that “these financial conditions are not going to be there forever”.

Public aid has helped maintain household income during the pandemic while households have been able to buy a home with financing at historically low interest rates.

Teleworking has led many people to seek a more spacious home and this has also increased demand during the pandemic, the report explains.

But the lack of labor, bottlenecks in the supply of materials and increases in producer prices hold back the ability of the construction sector to expand supply, putting more pressure on prices, according to the ECB.

The rise in house prices and overvaluations are already at levels similar to those observed in 2007, just before the global financial crisis and the real estate bubble broke out in Spain.

The ECB It does not say which countries are with housing bubbles, but it does say that problems have increased in countries where prices were already very high before the pandemic.

A graph from the report shows that the European Systemic Risk Council alerted Germany and France in September 2019 and gave recommendations to Belgium, Finland, Luxembourg and the Netherlands.

The aggregate 7.3% growth in house prices in the euro area in the second quarter of 2021 worries the ECB.

For this reason, it recommends macroeconomic policies that prevent and mitigate risks in the real estate markets of these countries.

These policies usually include measures such as forcing banks to have sufficient capital to reinforce the solvency of the banking system in phases of excessive credit growth (countercyclical capital buffer) and establishing limits and conditions for granting credit.

Germany, in particular, has not applied any of these capital measures or to curb the granting of credit.

France has imposed limits on debt relative to income, which will take effect in January 2022, and on the maturity of mortgage loans.

In the Netherlands, one of the countries with the highest household indebtedness in relation to Gross Domestic Product (GDP), the limits on the loan-to-value ratio were postponed due to the pandemic and will also come into effect in January.

Households with mortgages at variable interest rates or with short periods of fixed interest rates are the most exposed to an unexpected rise in interest rates, which would create problems for them to repay the loan.

The commercial property real estate market may also suffer corrections, especially low-quality offices, as telecommuting rises, health concerns and a preference for more environmentally friendly buildings, according to the ECB.

The rise in e-commerce has also reduced the demand for lower-quality offices and shops, where rental prices are expected to fall.