ECONOMY

Housing prices seen stable in the mid-term

The residential real estate market has been one of the reasons behind Greece’s robust economic growth rates in the last 10 years but it is showing signs of fatigue lately despite strong mortgage loan growth rates. The majority of executives at real estate firms are forecasting a period of steady prices in the months ahead but the combination of higher interest rates and a greater stock of unsold houses may test them. There is no doubt that the spectacular rise of the Greek real estate market in the last 7-8 years or so has helped the Greek economy weather the economic recession that hit some of its major EU trading partners early in the decade as well as the burst of the stock market bubble. The real estate market, especially its residential component, which is the biggest, has boosted the Greek economy mainly though two channels: consumption and investment. It has propped up private consumption indirectly through its positive effect on household wealth and has been behind a marked increase in aggregate investment spending over the same period, both underpinning GDP growth rates in excess of 3.5 percent on average. To understand the importance of higher real estate prices on consumption, one has to take a look at the figures calculated by economics Professor Gikas Hardouvelis, chief economist at Eurobank EFG. Hardouvelis estimates residential real estate accounts for 81 percent of Greek household wealth, compared to 16 percent for deposits and 3 percent for stocks. In addition, investment in houses accounts for about 5 percent of GDP and 25 percent of total private investment spending on average. So, the importance of residential property to the Greek economy should not be underestimated. It is no coincidence that spanning the period from 1996 to 2006, Greek residential investment spending grew by 4.6 percent annually on average in real terms, compared to 4.1 percent for GDP. To make a comparison, figures in the booming Spanish real estate market show residential investment expanded by 6.5 percent on average over the same period, surpassing real GDP growth of 3.8 percent. Although the Greek economy remains strong, cruising at annual growth rates exceeding 4 percent for another year, the majority of real estate market participants expect prices to stabilize in the next six months as demand softens and the inventory of unsold houses gets bigger as the new properties associated with changes in tax laws come on the market. We must remeber that many real estate developers and contractors rushed to get building permits before changes in the tax system came into effect at the start of 2006. The state imposed value-added tax (VAT) on new dwellings whose building permits were issued after this date. In addition, new higher «objective values» on which transfer taxes are calculated were imposed. On the positive side, many Greek developers can afford to wait before selling their properties at much lower prices because they have earned good profits during the boom years. In general, they are working with a profit margins of 30 percent or higher. So, keeping prices steady despite the new supply seems a reasonable assumption. Still, everybody knows the Greek residential property market would not have taken off were it not for the lowest interest rates in generations. But mortgage rates have been catching up since December 2005, increasing the monthly installments of the borrowers, since about 90 percent of mortgage loans taken out in Greece are variable-rate loans. Available data show Greek banks continued to disburse mortgage loans at a fast clip in the second quarter of the year, surprising even the optimists who expected a marked slowdown. One explanation may be the fact that the European Central Bank (ECB) rate hikes have been partly offset by tighter spreads on new mortgages brought about by competition among banks. Some argue that the rise in monthly installments has not being felt that much because borrowers choose to go for longer loans to compensate for the effect. Real estate executives estimate the average maturity of new mortgage loans has been extended to over 20 years from 15 years a few years earlier. Since banks provide loans with below market interest rates for the first year or more, this may also cushion the impact from the ECB’s campaign to tighten credit. We should remember that the ECB raised its key interest rates to 4 percent in June from 2 percent in early December 2005 and is likely to take it one notch higher to 4.25 percent in September unless conditions on world credit markets do not allow it. The market expects the ECB official rate to peak at 4.50 percent or 4.75 percent either this year or next. Still, the ECB official rate remains low by historical standards and more so when one focuses on the level of real interest rates in countries with relatively high inflation, such as Greece and Spain. With average Greek inflation estimated at about 3 percent or so this year, the short-term real euro interest rate stands at just 1 percentage point. Although the majority of property market participants expect to see residential prices stabilize on average over the next few months, higher interest rates will likely bite more as the spreads the banks charge borrowers will not be compressed much further. In this regard, it will be a battle against time, with developers trying to hold on as much as they can, counting on forecast strong economic growth and demographics, such as the rise in population, to smooth out supply and demand on the Greek residential real estate market.