What Are the Odds of Living Through Another Housing Bubble?

11/09/2014 – Cinco Dias

Real estate bubble had a devastating impact on the Spanish economy. Feverish pace of new dwellings construction resulted in a million of homes built every year, many of which now pile up to the unsold, repossessed stock.

On seeing how simple and fast it was to mortgage their property, many households took credits with no chance of paying them, at the same time entering into over-indebtness. This lack of control led to, in the worst cases, to foreclosures and evictions.

The entire business built around housing (sales, construction or auxiliary services) required plenty of low-skilled workers who indeed flocked to Spain tempted by high salaries. Afterwards, they have been explused from the market without future. Is it possible that such a scenario takes place again?

This question has been asked by the research department of La Caixa in its latest monthly report on the slight rise in property prices ocurring for the first time in last six year.

At the moment, their answer is no.

Prior to coming to this conclusion, La Caixas team compared housing prices development and income of Spanish households. The fact, that advance in value exceeds largely and in time the increase in household earnings may suggest the prices are found above their balance level, points out Joan Daniel Pina, the author of the study.

The risk is considerable in six countries where the home prices go up faster than the family income, i. e. in Australia, Austria, the United Kingdom, New Zealand, Sweden and Canada. The rate is extraordinarily high in Australia and the USA with the values increasing 10% annually in the first quarter of 2014.

When it comes to Spain, the country undergoes a pure adjustment after abrupt slump in prices.

Mr Pina moves further and thinks of ways of tackling the price overheating if this occurs in Spain. In such a situation, he reckons it reasonable to restrict accessibility to credits and to put stricter eligibility criteria by asking for more income from applicants or reducing the financing percentage of the total property value.

Another tool is the tax incentive in case of purchase of a main home, applied in all developed countries. In Spain, one of the most bubble-battered countries, the tax deduction disappeared in January 2013. Reasons were two: firstly, too many households could benefit from the relief and secondly, the regulation represented very high cost to public administrations (€1.8 billion less each year).

If the bubble expanded to more countries, the report advises a quick reaction from the part of monetary authorities in order to raise the interest rates. Such an increase in lending costs slows down both demand and supply and allows reining in the housing prices. However, it also remarks that finding a happy medium might turn out impossible as removing the financial stimulous could be lethal for recovering economies.

Original article: Cinco Días (by Carlos Molina)

Translation: AURA REE

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