“The ECB cannot please everyone”

Article published on Sept. 25, 2006
Article published on Sept. 25, 2006
The European Central Bank (ECB) maintains low interest rates, boosting growth and property prices. For economist José García-Montalvo, national governments should tax home buyers to control speculation

José García-Montalvo, Professor of Economics at Barcelona’s Pompeu Fabra University, has been studying the development of property prices, particularly in Spain. He is a member of the Instituto Valenciano de Investigaciones Económicas (Institute of Economic Research in Valencia), and regularly collaborates with the press.

Given that the ECB is responsible for monetary policy, is it also to blame for the increasing cost of real estate in the euro zone?

The ECB aims at stabilizing prices throughout the euro zone, a complicated task considering that the twelve member countries have very different economic situations. The headquarters in Frankfurt decided which interest rates Europeans should pay on their mortgages. When the euro became legal currency, the ECB applied a low interest rate to stimulate investment and relaunch the sluggish economies in France and Germany. However, this policy did not suit the Spanish economy which had a healthy rate of growth. In Spain, Frankfurt’s policies pushed interest rates down from 14% in the 1990s to 2% in 2005.

What are the consequences of the fall of interest rates?

Many households happily spend money far beyond their means, and sometimes run up debts for periods of up to 50 years. Housing costs and inflation are shooting up. In a country with 44 million people, around 800,000 new properties were built here in 2006, more than in the UK, France and Germany combined. A country the size of the USA builds 1,500,000 new homes per year.

Is it desirable to build some many new houses?

Low interest rates attract speculators who hope to make a fortune on the Spanish housing market thanks to the low loan rates. Many fear that this spaculation might push house prices up and lead to a “property bubble”. If this is the case the bonanza is only temporary and illusory. The bubble will burst sooner or later as it did in the UK and Hong Kong where real estate prices plummeted by 30%. When this happens people repay mortgages above the market value of the property. As a matter of fact, the IMF’s latest report warned that property markets might cool off. Buyers feel poorer and are less inclined to consume or buy real estate.

What about other European countries?

There has been a property boom in European countries such as Ireland and Holland. In the first few years after the introduction of the euro, the ECB applied a monetary policy which clearly favoured low growth countries such as Germany and France.

So what is the margin for manoeuvre in member states?

National governments are still responsible for fiscal policy but have to comply, through a series of taxes and incentives, with retrictions due to a common monetary policy. For example, Spain could eliminate the tax relief for property buyers to slow down the increase in housing prices. The rental market would develop given only nine per cent of Spanish properties are rented. But no government dares impose such anti-electoral measures.

What about Eastern Europe?

International investors are leaving Spain for more attractive markets in Eastern Europe, South East Asia and China. Countries such as Croatia boast the same economic growth as Spain due to the urban exploitation of the coast.

Apart from interest rates, what other factors affect property prices?

Population growth, increased births or immigration, can also push up property prices However, even in countries such as France where population growth is almost non-existent, property prices are booming. So population increases hardly play a key role. Construction costs are also important, but these have been stable for the past few years. In my opinion the increase in prices across the board, caused by low interest rates, affects all countries in the euro zone and outside it.

Is buying property still the best investment?

It is a commonly held belief that real estate is a safe investment and that the value of property will keep rising. However, it must be remembered that interest rates can go up again and that property prices can drop as was the case in Hong Kong, where prices have fallen by 66% since 1997.