The ECB must fight the real estate bubble with its hands tied

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FRANKFURT — From Luxembourg to New Zealand, global property prices have risen as the pandemic relaunch and shift to working from home have added fuel to a multi-year boom driven by historically low interest rates .

But while authorities from Auckland to Stockholm have shown they can pull monetary and regulatory levers to rein in house prices, the fragmentation of the eurozone into 19 national markets means that the hands of the Central Bank European are linked.

Five of 10 countries 20%20research indicates%20%20of%20homes%20reaching%20record%20levels around the world that saw the largest increase in house prices in 2020 were in the Eurozone, according to data from the International Monetary Fund.


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This raises concerns at the ECB that a new housing bubble could wreak economic and financial havoc just as memories of the 2008 crash begin to fade.

But the ECB cannot raise interest rates too fast or too far to help some members of the euro zone, because that would hammer the most indebted countries in the euro zone, such as Italy and Greece, and the bank Central wants to avoid a new debt crisis.

Instead, it must rely on often reluctant governments to calm real estate markets with so-called macroprudential tools, which also have the advantage of directly targeting real estate rather than the economy as a whole.

They range from banks building up extra capital when they make mortgages to introducing deeply unpopular caps on the amount of mortgages based on purchase price or buyer income.


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“Especially in the euro zone, with a single rate for different countries, macro-prudential tools are much better suited to fight real estate bubbles,” said Grégory Claeys, senior researcher at think tank Bruegel.

The problem is that the ECB cannot apply these brakes directly and can only issue warnings and recommendations via the European Systemic Risk Board (ESRB), the European Union’s financial stability watchdog.

In the latest such initiative, the ERSB – which is based within the ECB and led by Christine Lagarde – has urged Germany and Austria to impose limits on mortgage lending and increase capital demands for the banks.

But its prescriptions are not binding. Germany’s finance minister, for example, pushed back on the recommendation to introduce a loan-to-value ratio for homebuyers.


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History shows that this type of regulation can work.

South Korean authorities succeeded in slowing house price growth by imposing a debt-to-income ratio in the early 2000s .

And Sweden briefly succeeded in bringing down the cost of housing in 2018 by requiring landlords to repay at least 1% of their loan balance each year if they have mortgages greater than 4.5 times their household income.

“It would have a very strong and very rapid impact,” said Matthias Holzhey, co-author of UBS’s annual Global Real Estate Bubble Index.

Yet it would also require unpopular choices, like making mortgages virtually unaffordable for the poorest households.


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This is why national regulators in the euro zone, which often include government officials who would pay the electoral price of a public reaction, are dragging their feet.

Germany, for example, has only just announced its intention to slow down, a decade after the start of its housing boom and with property prices already overvalued by 20 to 35% according to the Bundesbank.

“When you implement strict macroprudential measures, you disrupt the party,” said Commerzbank chief economist Joerg Kraemer. “It requires a very independent position.”

The ESRB said this month that Finland and the Netherlands were not doing enough to limit mortgage lending despite its recommendations.

“There is no cost for a politician not to act,” Claeys de Bruegel said. “We need an independent financial stability board that can bite.”


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Yet research shows that monetary policy is still important and can either make macroprudential regulation more effective https://www. if it supports it or it can prevail if it works the opposite way.

That could be the case in the eurozone, say some economists, doubting regulation will make much difference as long as mortgage rates stay below inflation, making real estate investments attractive to households and professional investors.

Borrowers were locking in an annual mortgage interest rate of just 1.3% for 10 years in December, according to the latest ECB data, against an expected inflation rate of just under 2% over that period.


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Commerzbank’s Kraemer is one of many economists who expect these negative real returns to persist, mitigating the effect of regulatory restrictions.

“When rates are too low, it’s a tough fight,” he said.

Ireland is a good example.

House prices there rose 14.4% last year despite strict limits introduced in 2015, which cap mortgages at 3.5 times the borrower’s gross annual income.

With this in mind, some ECB policymakers suggest the central bank should give house prices more weight when estimating inflation and setting interest rates, as it does in New Zealand.

(Additional reporting by Padraic Halpin in Dublin Editing by Tomasz Janowski)



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