Housing bubble in Portugal? Future depends on interest developments

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A climb with no end in sight. This is how house prices are evolving in Portugal. Prices have been growing more for five years than is recommended by Europe's economic and financial authorities – more than 6% a year. And it is this scenario that puts Portugal in a real estate bubble. What can reverse the situation? The rise in the interest rate on housing credit, as it can control demand by driving investors and families away from the market.

Buying a house is getting more and more expensive. This is a scenario that has been living in Portugal since mid-2013, as shown by data from the National Institute of Statistics (INE). This reflects the dynamism of the residential market Portuguese, but also the lack of homes for so much demand. The point is that for five consecutive years house values on the Portuguese market have increased annually to the value from which the European Commission (EC) considers that a market is at risk of a price bubble, as Eurostat pointed out in August 2021.

And it is not the only entity to come to this conclusion: "After the third quarter of 2017, there may be evidence of exuberant price formation in the residential market Portuguese," concludes a CaixaBank study published in January 2022 and now analyzed by idealist/news. This means that Portugal is at risk of price bubble. And what is to be done to stop this explosive scenario? "Only the reversal of the low interest rate cycle - which increasingly seems a less distant reality - can confirm whether or not the cooling of demand, especially, of the appetite for real estate as investment assets," the same report states.


Can interest rates go up – yes or no?

The solution seems to be in the rising interest rates on housing credit,which are now at historic lows attracting many families and players to buy home. A possible rise in key interest rates by the European Central Bank (ECB) has been talking in recent months. But Christine Lagarde, the president of the ECB, went public last November to say that it is "highly unlikely that the conditions will be given to raise interest rates in 2022". The truth is that a possible rise in interest rates depends on inflation – which is currently rising in the euro zone – and how long high prices will persist in the market.

On the world stage, different scenarios coexist in the two main economies of the globe. The United States Federal Reserve (Fed) has already announced that it will trigger measures to curb the country's inflation, withdrawing measures to support the economy earlier than expected and raising interest rates three times in 2022, the Public wrote. In China,the scenario is reversed: the Bank of China has cut its benchmark rates, with the expectation of stimulating the economy, says the Business Journal.

And in the European case? Could there or may there not be an increase in the interest rate in the coming years? If inflation continues to rise, Martins Kazaks, a member of the ECB's Board of Governors, said the European regulator is "ready to act," which means raising interest rates and cutting support if necessary - measures similar to those of the Fed. And on this point, Nuno Alves, director of the Department of Economic Studies at Banco de Portugal (BdP), has no doubt: "That [interest rates] will rise, they will, given that they are at historic lows", but "one will not expect a rapid or large rise in ECB interest rates in the coming years", taking into account the monetary policies defined by the European regulator. Nominal interest rates "will never rise beyond 3% or 4%," according to the Head of the BdP last November.


What is the effect of rising interest rates on the housing market and the economy?

The aim is to control the increase in prices by controlling demand, because there is currently a gap between demand and supply. In the case of the residentialmarket, rising interest rates can keep families from buying homes using housing credit,as it will increase the monthly instalment payable to the bank.

On the other hand, a small adjustment in interest rates can lead to non-compliance with bank loans from many households and generate a scenario of house price correction,as the European Commission pointed out in its semiannual report. "A house price correction triggered by an increase in interest rates cannot be ruled out, but price adjustments are likely to be muted" due to the imbalance between supply and demand, they stressed since the EC.

On this point, the BdP says that Portugal is protected, since the macroprudential recommendation in this area is being followed, reducing the household indebtedness ratio and improving the risk profile of borrowers. That is, Portuguese families who have contracted housing loans should have financial conditions to ensure their payment even in a scenario of rising interestrates. And in this way avoid a worsening of the bad credit, which has effects on the financial system and consequently on the economy - as happened in previous crises.



The imbalance between supply and demand in Portugal

Rising year after year. This is how house prices in Portugal have charted their way in recent years. There are "signs of a potential overvaluation of house prices"in Portugal, the EC warned and there is still potential to overvalue. But what's behind this increase?

The perfect storm was due to the combination of several factors that triggered demand for the residential market Portuguese. The houses came out of the pandemic and families were able to collect the savings needed to buy a house or to enter the housing credit. And then the financing conditions for housing acquisition are now more inviting – especially given the low interest rates.

The truth is that the interest rate on housing credit contracts was on a decreasing route for a year: between September 2020 and September 2021, the month in which it reached the historical low of 0.785%, according to INE data. This trend was reversed between October and November last year, months in which there were slight increases. But the growth lasted little since in December the interest rate fell again to 0.801%.


However, the supply of homes did not keep up with the explosion in demand. CaixaBank's analysis shows that since 2006 the construction of new homes in Portugal is less than 20 per 1,000 homes. And yet it has worsened over time, since since 2010, fewer than 10 homes have been built per 1,000 homes. The data show, therefore, that "there was no oversupply of new housing to put down pressure on house prices",concludes the study. Underpouring this hypothesis is the weight of new homes in total tradums, which fell from levels above 30% in 2011 to values in the order of 15% today.

There are also those who draw a scenario of falling house prices through increased supply and falling family incomes. "The residential market will tend to consolidate the trend of slight decline in average transacted values, as a result of an increase in product directed to the middle class and as government support during the pandemic is eliminated and the evolution of the labor market becomes less favorable to the family rendimento,"said paula Fernandes, in an interview with idealist/news CEO of RAR Imobiliária.



  • Source: Idealista.pt