Vulnerabilities in the residential real estate sectors of the EEA countries (Informe de la JERS)

Vulnerabilities in the residential real estate sectors of the EEA countries

February 2022

Contents

Executive summary	2
1	Residential real estate markets: overall trends	6
	Box 1 Effects of the pandemic on residential real estate markets	10
2	Cross-country risk analysis	14
	2.1	Collateral stretch	17
	Box 2 House price overvaluation measures for the European Union	21
	2.2	Funding stretch	26
	2.3	Household stretch	33
	Box 3 Financial wealth in the European Union	34

2.4 Structural factors and public policies relevant for the housing sector

		and mortgage lending	42
	Box 4 The user cost of housing	45
3	Country analysis of risks and policies for a subset of ESRB member
	countries	52
	3.1	Risk analysis	52
	3.2	Policy assessment	55
	Box 5 ESRB work on assessing macroprudential stance	55
	3.3	Member States that received ESRB recommendations or warnings
		over RRE vulnerabilities	63
	3.4	Other ESRB member countries	93
4	Concluding remarks	125
Annex on methodology	126
Imprint and acknowlegements	128

Vulnerabilities in the residential real estate sectors of the EEA countries / February 2022
Contents	1

Executive summary

Housing is a key sector in the real economy and represents a major part of household

wealth and bank assets. Given the importance of the residential real estate (RRE) sector to financial and macroeconomic stability, the ESRB, alongside national macroprudential authorities and the European Central Bank (ECB), has a responsibility to contribute to preventing the build-up of RRE vulnerabilities across Europe. At the EU level, the ESRB has a mandate to "[…] contribute to ensuring financial stability and mitigating the negative impacts on the internal market and the real economy".1 To this end, the ESRB can issue warnings if it needs to flag vulnerabilities and trends that have the potential to disrupt financial stability. The ESRB can also go one step further and issue recommendations, which not only flag financial stability risks but also point to necessary remedial actions. Similar mandates are given to national macroprudential authorities across EU Member States.

The ESRB has been active in assessing vulnerabilities related to the EU real estate sector and, after issuing a first set of warnings in 2016, it then issued a set of country-specific recommendations in 2019, along with further warnings on medium-term vulnerabilities in the RRE sector.2 In 2019, Belgium, Denmark, Luxembourg, the Netherlands, Finland and Sweden received ESRB recommendations3 on the back of a combination of country-specificvulnerabilities, related primarily to the level of household indebtedness or the growth of mortgage credit, coupled with concerns about lending standards and the ability of households to withstand negative economic shocks. Moreover, some of these countries were exhibiting strong house price growth or an overvaluation of residential real estate. These vulnerabilities were identified as presenting financial stability risks of varying nature across different countries, and a compliance report was produced by the assessment team that had been created as a result.4 In addition, in 2019 the ESRB issued country-specificwarnings on medium-termvulnerabilities in the real estate sector to the Czech Republic, Germany, France, Iceland and Norway.5

This report summarises the ESRB assessment concluded in 2021. The ESRB analysed the main trends for various indicators of RRE vulnerabilities across the European Economic Area (EEA; the EU27 as well as Iceland, Liechtenstein and Norway) and the respective macroprudential policy action that these countries have taken to mitigate the resulting financial stability risks. The analysis has been particularly difficult at the current stage owing to the impact of the coronavirus (COVID-19)pandemic. Notwithstanding the resilience of the RRE sector so far, the longer-termadverse effects of the COVID-19shock on property markets are

1. Recital 10, Regulation (EU) No 1092/2010 of the European Parliament and of the Council of 24 November 2010 on
   European Union macro-prudential oversight of the financial system and establishing a European Systemic Risk Board (OJ L 331, 15.12.2010, p.1).
2. In addition, the ESRB published two reports entitled"Vulnerabilities in the residential real estate sectors of the EEA countries" and"Methodologies for the assessment of real estate vulnerabilities and macroprudential policies: residential real estate", both published in September 2019.
3. Belgium(Recommendation ESRB/2019/4); Denmark(Recommendation ESRB/2019/5); Luxembourg
   (Recommendation ESRB/2019/6); the Netherlands(Recommendation ESRB/2019/7); Finland(Recommendation ESRB/2019/8); Sweden(Recommendation ESRB/2019/9).
4. Summary compliance report, March 2021.
5. Czech Republic(Warning ESRB/2019/10); Germany(Warning ESRB/2019/11); France(Warning ESRB/2019/12); Iceland(Warning ESRB/2019/13); Norway(Warning ESRB/2019/14).

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highly uncertain and will largely depend on the duration of the shock and the timing of the termination of support measures. Box 1, entitled "Effects of the COVID-19 pandemic on residential real estate markets", provides more details on the implications of the pandemic for RRE markets. In the case of the 24 countries for which the identified vulnerabilities were more pronounced, the ESRB conducted a country analysis, taking into account the interaction between vulnerabilities, plus some additional information. For these countries, the ESRB also assessed the policies that affect the vulnerabilities.

The analysis shows that, in most of the countries receiving ESRB recommendations or warnings in 2019, the vulnerabilities have grown, which is also the case of most of the other EEA economies.6 House prices continued to increase in most cases, resulting in greater overvaluation. Moreover, the risks related to household indebtedness remained unchanged or even increased in several countries. This was partly due to mortgage credit growth, which continued to increase robustly in most countries. Structural factors have contributed in many countries to the vulnerabilities in the real estate sector.

Beyond macroprudential policy considerations, broad reforms in housing and other public policy areas are required to remediate the mismatch between the supply of and demand for housing in certain countries. In addition, rental markets are not sufficiently developed in some countries. More effort should be made to identify measures which could remediate these shortcomings. Structural and other factors leading to imbalances should be addressed by policies directly affecting the imbalances. Macroprudential policies are in place to build resilience and not to address structural factors directly.

The ESRB concluded that, in the five countries which received ESRB recommendations or warnings in 2019 (Denmark, Luxembourg, the Netherlands, Sweden and Norway), the vulnerabilities related to RRE markets remained high, while in six countries (Belgium, Czech Republic, Germany, France, Finland and Iceland) the vulnerabilities were assessed as medium. Of the rest of the EEA countries, thirteen countries (Bulgaria, Estonia, Ireland, Croatia, Lithuania, Hungary, Malta, Austria, Poland, Portugal, Slovenia, Slovakia and Liechtenstein) were identified as having medium vulnerabilities based on the analysis.

A range of macroprudential measures had been activated before the COVID-19 pandemic to address these vulnerabilities. However, some measures have been discontinued to mitigate the pandemic-related consequences for households and banks. Many EEA countries already had some form of borrower-basedmeasures in place, except for Bulgaria, Germany, Spain, Italy and Luxembourg. In 2020, some of these measures were relaxed or discontinued after the onset of the pandemic (Czech Republic, Finland, Malta, Portugal, Sweden and Norway). Capital-basedmeasures such as risk weight requirements or floors for RRE exposures had been in place in about half of the countries. A positive countercyclical capital buffer (CCyB) or systemic risk buffer (SyRB) was present in all countries except Greece, Spain, Italy, Cyprus, Latvia, Malta, Portugal and Slovenia7 before the crisis, while in most countries the CCyB has been fully or partially discontinued owing to the pandemic.

1. This is consistent with the analysis of theECB Financial Stability Review, November 2021.
2. However, the CCyB or the SRB were not necessarily calibrated to address RRE vulnerabilities.

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Financial stability risks related to residential real estate have continued to increase in the context of the macroeconomic risks associated with the pandemic as well as the continuation of strong housing market dynamics and household indebtedness. The pandemic has led to a sharp decrease in economic activity and uncertainties regarding the outlook, with an unequal economic impact across household income groups so far.8 Interest rates on new loans are decreasing, leading to a surge in demand for residential real estate, accompanied by increasing house prices and mortgage loan volumes. In the medium term, the impact of the pandemic and low interest rates is expected to increase vulnerabilities related to household income and debt servicing capacity, and overall debt levels.

In the initial phases of the pandemic, the lack of activation of macroprudential measures or even their reversal was understandable in the broad policy context of mitigating the impact of the pandemic, and economic uncertainty. In addition to important fiscal and monetary support measures, micro- and macroprudential authorities lowered capital requirements and softened other requirements in response to the crisis to enable credit intermediation to the real economy. Given the difficulty in assessing the situation in the context of the pandemic-relatedeconomic downturn, the interpretation of the risk indicators in this report has been adjusted accordingly.

As house prices and mortgages have continued to increase strongly in a number of countries, however, national authorities should once again start considering the (re-)introduction or tightening of macroprudential measures. The overall improvement in the economic situation allows for an adjustment of macroprudential policy, even though the stage countries are at in the RRE cycle and the impact of the withdrawal of support measures on RRE markets should be considered carefully. Taking into account potentially differing economic and financial cycles in the aftermath of the pandemic, authorities should consider acting by implementing macroprudential measures that will prevent vulnerabilities related to the RRE markets from increasing, while aiming to avoid procyclical effects on the real economy and other segments of the financial sector (in particular, by taking into consideration the potential lagged impact of the pandemic on the banking sector). In the near term, it is particularly important for all countries that banks make adequate provision for expected losses. It may be necessary to revisit the discussion on adjusting existing borrower-basedmeasures or activating new ones, and on adjusting existing capital-basedmeasures or activating new ones to rebuild capital buffers.

Taking all these factors into account, the ESRB policy assessment concluded that, in five countries (Belgium, Czech Republic, France, Iceland and Norway) which received ESRB recommendations or warnings in 2019, the policy was assessed as appropriate and sufficient to mitigate the vulnerabilities identified in this analysis. In two countries (the Netherlands and Sweden) the policy was assessed as appropriate but only partially sufficient and in four countries (Denmark, Germany, Luxembourg and Finland) the policy was assessed as partially appropriate and partially sufficient. Of the remaining EEA countries, in seven countries (Estonia, Ireland, Lithuania, Malta, Poland, Portugal, Slovenia) policy was assessed as appropriate and sufficient, in one country (Slovakia) policy was identified as appropriate and partially sufficient, while in five countries (Austria, Bulgaria, Croatia, Hungary, Liechtenstein) it was assessed as only

8 See, for example, European Central Bank (2021), "COVID-19and income inequality in the euro area", Economic Bulletin, Issue 2.

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