Further strong warning from Bundesbank on 'overheating' property market

Germany's Bundesbank has issued its strongest warning yet about the pace of price rises in the country's residential housing market, saying in its latest monthly statement that the risk of a bubble developing has grown significantly.

Over the last five years, as house prices across Germany continue to rise, the Bundesbank has been continually issuing warnings about a bubble developing and prices decoupling from their long-term relationship with incomes.

In the bank's view, property is overvalued by up to 40% in parts, and not just in the country's biggest cities. The trend towards overvaluation has intensified over the past twelve months, it warns in its February report. The bank's analysts estimate that in 2021, property prices in cities were between 15% and 40% above the price "indicated by socio-demographic and economic fundamentals". The previous year, in 2020, that range was in the area of 15% to at most 30% overvalued.

Figures from the Association of German Pfandbrief Banks (Verband deutscher Pfandbriefbanken), on whose figures the Bundesbank relies, show that prices for residential property increased by 11.3% last year - after a 7.5% rise the previous year. Using a slightly different formula, calculations by the Bundesbank based on data on 127 German cities from consulting firm Bulwiengesa had indicated a price increase of 7%.

The report says that the gap between rents and purchase prices has been widening still further - a typical early-warning signal of a developing bubble. With price rises in the largest German cities last year of between 10% and 15%, rents for new lease agreements rose by only 2.5%, according to Bulwiengesa. In the Big 7 cities - Berlin, Munich, Hamburg, Cologne, Frankfurt and Stuttgart, the increase in rents was 2.75%

The Bundesbank analysts assume that residential property outside of the bigger cities has also become much more expensive - they justify this based on the persistently high demand and with supply bottlenecks of both labour and materials helping to push up prices - a situation scarcely likely to improve in 2022, given that there are little signs of an easing of supply chains globally.

The Bundesbank is not the only group of economists warning about increasing risks in the property market. The European Systemic Risk Board (ESRB) also recently called for further concrete measures to dampen the rises in property prices. Even Germany's leading real estate industry lobby group ZIA says that the level of price rises in German cities is "both surprising and thoroughly frightening".

In a recent comment on the underlying causes of the price rises, Sabine Barthauer, ZIA's chair of its financing committee, said: "The price increases on the housing market are in many places primarily the result of a lack of housing, a shortage of building land, rising construction and material costs and, in particular, extremely low interest rates that have been in place for a long time. The latter make real estate attractive due to falling returns on alternative investments. An expansion of the housing supply, as envisaged by the new government coalition, can have a relaxing effect in this regard."

The February Bundesbank report also looks at the supply and demand situation on the German market. Last year Germany completed about 310,000 apartment units, the same as in 2020, while issuing 380,000 building permits. Labour and material bottlenecks saw a 13.4% increase in overall costs for construction in the third quarter. Disposable incomes rose only moderately by 1.8% over the year, while interest rates remained virtually unchanged, averaging about 1.3% on mortgage loans across all maturities. All of which seriously affects the affordability of housing, the report concludes.

The financial supervisory authority BaFin has also recently introduced stricter regulations for banks lending against property, with banks having to put aside an addition capital buffer as a precaution against the market overheating. A further buffer against bank lending for residential property is to come into effect on April 1st.

The Bundesbank's vice-president Claudia Buch warned German lenders against complacency back in January in a strongly-worded statement. The banks had increased their exposure to interest rate risk as the proportion of new German mortgages with interest rates fixed for at least 10 years had more than doubled since 2010 - the year that Germany's strong upswing in its housing market started.

“There is a much longer credit maturity on these mortgages outstanding, meaning that if interest rates increase the banks would have higher refinancing costs but their asset values wouldn’t change that much,” she said.

Commenting on the new stricter rules for banks' capital requirements, Professor Buch said she hoped the new rules would provide “a bit of an incentive” for lenders to “think twice” about the recent trend at some banks for providing mortgages for the entire value of a property with little or no deposit. She warned that if such high-risk mortgages proliferate, regulators could impose new rules limiting the amount banks can lend against a property.

“The intention is not really to tame the property price cycle but to make sure that whatever financing there is is sound, and that the borrowers can actually afford it,” she added.

Transaction volumes on Germany's private and commercial property markets reached €353.2 billion, a 13.7% rise on 2020, and the highest volume on record, according to new figures from national broker association IVD, based on tax income figures from the Grunderwerbsteuer, or land transfer tax. Among cities, Berlin led the way with a rise in transaction volume of 26.4% year-on-year, while Bremen claimed the wooden spoon with a rise of only 4.2%.