Continental Europe is starting to feel a little more Irish. And that’s not a good thing.
In the Netherlands house prices rose by over 9 per cent in 2020 as the affordability of property dominated the recent Dutch general election campaign. In Belgium, decades of low single-digit price growth have recently given way to bidding wars and investor-led price speculation. Even Germany, the cradle of long-term renting, continues to experience a decade-long property boom. A boom which rent controls have been unable to restrain.
Europe, as Ireland was in its swaggering Celtic Tiger heyday, is now awash with economists talking about “market fundamentals”, “supply issues” and “soft landings”. And while the ongoing pandemic has muddied the waters in terms of forecasting, the underlying cause of such price appreciation is clear.
Cheap money is driving the European embrace of property. And that’s causing families and investors to make some very bad decisions.
The reality of pandemic economics in continental Europe – large-scale income supports driving significant increases in saving rates – is simply turbocharging rock-bottom mortgage rates. And while much of the market commentary has focused on relentlessly rising stock markets, the real and more present danger of property bubbles has long been overlooked.
A decade of monetary easing from the European Central Bank (ECB) has driven Europe’s property binge. As highlighted in research from Spain’s Caixa Bank, the reduction in average mortgage financing costs across the euro zone – from 5 per cent in 2007 to 2 per cent in 2019 – is driving excess demand for property as an investment asset.
A decade of monetary easing from the European Central Bank has driven Europe's property binge
Such price appreciation shows the negative implications of constant monetary stimulus. Years of very low interest rates, in the words of Morgan Stanley’s chief global strategist, “encourage more borrowing and rising debt, which drags productivity lower and slows growth” in the long run.
Asset price rises
It also fuels asset price rises which are increasingly disconnected from fundamentals like income.
Look at Belgium. Notwithstanding the pandemic, the average mortgage interest rate fell from 1.7 per cent to 1.4 per cent (compared to an average rate of 2.8 per cent in Ireland) during 2020. This has the practical implication of increasing the amount that can be borrowed irrespective of income or employment changes.
Borrow more, pay less is the new golden rule.
Mario Draghi may have saved the euro when he pledged that the ECB would do “whatever it takes” to protect its integrity in 2012. But the refusal of politicians to allow fiscal policy to take its share of the burden in proceeding years is now coming home to roost. Europe’s belated (and unavoidable) conversion to budgetary expansion in 2020 could not have come at a worse time for property market sustainability.
In fact, it’s a recipe for bubble-making of the worst continental-shaped kind.
But as we know in Ireland, it’s not the boom – but rather the inevitable crash – that will have lasting consequences for politicians. But this time will be different because this time the EU will likely take much more of the blame.
In many ways the EU is caught in a bind. Recovering from the pandemic necessitates low interest rates and high government spending. But Europe’s recent mistakes – mismanaging the recovery from 2010, a semi-complete banking union, a conditional (and horrifically slow) recovery fund and a debatable vaccination procurement strategy means it can no longer hide behind the mistakes of national governments.
Rules and constraints
Interest rate policy, banking regulation and even member state debt levels are now subject to European-level rules and constraints. When the property slowdown comes, national politicians will be more than grateful to have Brussels and Frankfurt to point to.
As we know in Ireland, it's not the boom but the inevitable crash that will have lasting consequences for politicians
The EU is wealthy enough and diversified enough to dodge anything like a full Irish 2010 implosion, but the prospect of a post-pandemic economic recovery being accompanied – or, worse still, punctured – by falling house prices and tales of mortgage woe should be keeping Brussels up at night.
Because the real risks in the long run are political, not economic.
Unfortunately, the EU remains focused on the all the wrong indicators. The Germans, backed up by the fiscal conservatives, remain spooked by phantom inflation. Why worry about the current crisis when you can fret about the one in 1923? The European Commission is busy just trying to be viewed as part of the solution, not part of the problem.
Politically, a property slowdown and weak economic recovery could reshape European politics. Both Germany and France go to polls in the next 12 months. And while debates about billions of euro in pandemic aid and financial market speculation are abstract to most, every single voter will know personally when their mortgage becomes more of a financial strain, when their rent increases faster than their income, or when the house next door sells for less than it did three years ago.
The EU has long sold itself as a bastion of stability compared to the wayward Brits, the competing Chinese and the American wild west. But, the real test of that thesis may be just about to start.
Eoin Drea is a researcher at the Wilfried Martens Centre, the official think tank of the European People’s Party of which Fine Gael is a member