With so much talk around about the imminent return of inflation, REFIRE took part in a discussion this week with several industry insiders to see how they viewed the likelihood that the coronavirus pandemic, or indeed any other cause, was leading to the buildup of inflationary pressures.
The audience heard that a brief inflation hike may be expected in the wake of the pandemic. This, plus lower interest rates, will result in negative real interest, which in turn will make real estate yet more attractive.
Laying the economic groundwork for the discussion, Prof. Dr. Friedrich Heinemann at the ZEW Centre for European Economic Research and macroeconomics professor at the University of Heidelberg said there may be short-lived inflation of 3-4% as COVID-19 is brough under control but it will quickly subside. "Nevertheless, there is reason to expect lengthy phases in the decade ahead during which inflation will significantly exceed the ECB’s inflation target of two percent.
"There are essentially two reasons for this: For one thing, many of the effects that have long put a damper on inflation, such as the ready availability of low-wage labour in Asia, are about to expire. Secondly, the very high post-pandemic debt levels in countries like Italy will be unsustainable without long-term financial aid from the ECB.
The ECB itself is increasingly becoming mired in the “fiscal dominance” trap, and no longer truly able to mount a robust response to increased inflationary pressure. Long-term interest will respond to higher inflation only to some extent, because debt relief for high-debt countries can only be accomplished through falling real interest rates.”
The second professor on the panel, Prof. Dr. Steffen Sebastian of the IREBS business school at the University of Regensburg, highlighted the long-term relationship between interest rates an inflation. The key question is how to define 'long-term'.
"The ECB is a strong market player, to be sure. But it does not represent the market as a whole. While the central bank of the eurozone may ignore the need for inflation compensation when buying up government bonds, private lenders have no such option. They need inflation compensation.”
Francesco Fedele, CEO of Stuttgart-based BF.direkt AG, sees little danger of real estate as an asset class falling in popularity among investors. “Negative real interest—that is, where inflation outpaces interest rates—makes real estate even more attractive as an asset class. I’m not aware of any sign suggesting that real estate investments have lost in appeal. Even if long-term interest rates were to rise, it would not compromise the attractiveness of the asset class. And this is true regardless of the type of use.”
Largely agreeing with BF.direkt's Fedele was Torsten Hollstein, managing director of CR Investment Management who also saw ongoing solid support for the asset class real estate. "However, rent rates in certain segments will come under pressure. We are already seeing it in the case of retail real estate, and the phenomenon is arguably conceivable for offices, too. In short: We might see some reshuffling within the asset class of real estate. But the macro trend remains positive.”
In response to several questions about the emergence non-performing loans (NPLs), Hollstein (whose firm is normally among the first to pick up on weakening or distressed situations in firms or sectors) said inflation expectations had little to do with companies in trouble. He said, “I’ve seen the number of NPLs rise in certain segments. But these involve mainly small and medium-sized enterprises. Their trend is primarily related to COVID-19, and unconnected to interest rates and inflation expectations.”
Hollstein did offer interesting insights into the extent which the ECB is active in scooping up all sorts of unlikely bonds from a wide range of sources as part of its QE programme, and which even an experienced hand like himself was 'amazed' to see (from his vantage point as chairman of the supervisory board of listed CA Immo AG). Whereas in the past they may have bought such bonds on the secondary market, they are now - significantly - active in the primary market.
