Property market may hold key to economy
Greek Finance Minister Giorgos Alogoskoufis has his hands full these days as the economy continues to slow and all signs point to a much bigger general government budget deficit than anticipated. Against this background, one important but frequently overlooked aspect is the relationship between economic activity and the property market, which may make things better or worse in the medium term. Although Greece can count on some 20 billion euros or more from EU structural funds in the next few years to boost its economy, it may find that the health of its real estate market is equally important, mainly the residential but also its commercial and industrial components. It is estimated that residential real estate accounts for about 20 percent of the total market. The importance of the residential property market to the Greek economy may be underestimated, given the fact that about 80 to 90 percent of local household wealth takes the form of real estate, compared to between 40 and 50 percent in other eurozone countries. Private residential investment accounts for a larger portion of total investment spending than in other EMU countries. This means the course of residential property prices has a greater effect on the consumption and savings choices of the average Greek household than its European peers with respect to the wealth effect, that is, the perception of being more well off or worse off. It is known that a combination of lower nominal interest rates in the runup to EMU membership and higher Greek inflation helped fuel demand for mortgage loans which in turn boosted housing prices during the last 10 years. Buoyant house prices had a positive impact on the local economy because they generated more income for constructors, workers and homeowners. On the other hand, the local real estate market also benefited from the strong annual economic growth of 3.0 percent or more on the back of sizable EU fund inflows in the last decade. The strong economic activity raised disposable incomes, strengthening the demand for housing. Following the downward revision of GDP growth by economists, Alogoskoufis recently signaled a further slowdown of the Greek economy in the second quarter. This is likely to accelerate in the second half of the year and perhaps spill over to 2009 if the international financial crisis persists and the government fails to inspire confidence in households and businesses about the prospect of better days ahead. Greek gross domestic product (GDP) growth is heading south and will likely be lower than the 3.6 percent year-on-year recorded in the first quarter, contributing to the widening of the general government budget deficit which placed Greece under the surveillance of the European Commission a few years ago. To be fair, although meager by Greek standards of the past 12 years or so, a performance of 3.0 percent or better for 2008 is an achievement other eurozone countries could only have dreamed about. However, the slowdown of the economy has had an adverse impact on the residential property market. Wage growth may exceed inflation again this year but a combination of other factors, such as higher uncertainty and higher euro lending rates, have made Greek households more risk averse, contributing to weaker demand for housing. On the other hand, the residential property market is burdened by oversupply as new housing units appearing on the market in the past few years have far exceeded demand. Developers are fully aware of the oversupply and are asking for a smaller number of building permits than before to buy time and smooth out the market. However, the ensuing slowdown in construction activity coupled with the supply overhang on the property market has stalled house prices at best and have an adverse impact on Greek households via the wealth effect. This combination exerts downward pressure on the economy. Consequently, this dynamic causal relationship between the economy and the residential property market should be handled with care by the government because it may decide whether the country can continue or its 12-year-long stretch of outperforming the Eurozone average growth rate. In this regard, additional tax or other measures aimed at bolstering the state coffers may end up weakening the economy by undermining one of its main pillars. This is a gamble which the government and Alogoskoufis in particular cannot afford to lose.
