Growing risks on the German housing market

Prices on the German housing market are steadily spiralling upwards. In the third quarter 2017, prices for residential property climbed on the previous year by somewhat more than 6 percent. With the economy running at full steam and interest rates at extremely low levels, prices have surged upwards for the seventh year in a row. There are increasing signs of overvaluations, particularly in the sought-after big cities, where purchase prices in relation to rents have clearly exceeded historic averages. However, there is nothing to suggest that a palpable correction will occur in the current upswing. Should this happen, it is reassuring to know that houses and apartments in Germany are solidly financed, thereby reducing the probability of a downward spiral of falling property prices and defaulting mortgages. Or is this (still) really the case?

For in actual fact the strong demand for property is being financed to a considerable degree via a marked expansion in mortgage lendings. At first sight no excessive risks can be noted, as signalled by the moderate debt of private households and the comparatively subdued rise in mortgage volumes of just over 4 percent p.a. Moreover, a large part of the mortgages are secured by moderate lending levels, long fixed interest periods and high redemptions. But not every property finance is weatherproof. The available data show that, at least for residential financing, the own capital to be furnished by buyers today is no higher than 20 years ago, despite the significant rise in purchase prices. Yet the loan amounts have risen by a good half. Even so, the burden on private net income from financing a property purchase has fallen on average from one third to one quarter, thanks to the low interest rates.

On the other hand, the data evaluation shows that the financial leeway gained from the low interest payments is often used for lower loan instalments rather than for high collateral levels. This is revealed in the most commonly found fixed interest periods (10 years) and repayment rates (2 percent). This leads to a higher interest-rate adjustment risk because, with this combination, only somewhat more than one tenth of the debt will have been paid off at the interest-rate adjustment time. And this debt is often quite high; nearly half of the loans have loan-to-value ratios of more than 80 percent. If interest rates at the adjustment time lie one or two percentage points above today’s level, the loan instalments will shoot upwards. What’s more, the relatively low redemptions result in long credit periods of 35 years and more. In many cases, however, the buyers are already over 40 years of age.

Given the low interest rates, buying a property is now often even more attractive than paying rents, despite the high prices. With new housing construction unable to keep pace with demand, purchase prices are also likely to continue edging upwards, with annual rates of 5 to 6 percent altogether possible. For this reason, property prices will likely rise more quickly again than consumer prices, rents and incomes, with the valuations on the housing market and the risk of correction also rising in tandem. While we are not about to experience a dangerously inflated bubble on the German housing market, risks do indeed exist, also with regard to a section of property financing.


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