Spain Market Overview 2007

Despite ominous signs of reduced momentum, the Spanish housing boom, which started in 1998, has continued in 2006. Average prices for houses and apartments in Spain increased by 9.1% (6.3% in real terms) to €1,990 per sq. m. in Dec 2006.

However, year-end price changes for 2006 were lower compared to the previous years’ rises; 12.75% (8.7% in real terms) in 2005, 17.2% (13.6% in real terms) in 2004 and 18.5% (13.2%) in 2003. Average house prices in Spain have increased by 174% (110% in real terms) since 1998.

Madrid has the highest average price among Spain’s autonomous regions, at €2,955 per sq. m. as of December 2006 (6.11% higher from a year earlier). On the other hand, Galicia registered the highest house price change of 12.93%, from €1,282 per sq. m. in 2005 to €1,448 per sq. m. in 2006.

Sound economic fundamentals

The increases are not entirely a matter of bubble and froth. Among the sound economic reasons which may be cited are:

• Spain’s quite high rate of economic growth (especially 1985-1991, and post-1994). Though Spain’s growth never approached the double-digit rates of Ireland, the average annual GDP growth of 3.7% from 1998 -2006 has been substantially above the EU average of 2%.
• Mortgage rates in Spain, among the lowest in Europe, were at historical low of 3% in Sept 2005 and have been below 4% since 2003. Although, mortgage rate has risen to 5.054% in May 2007, this was in sharp contrast to the 17% mortgage rate in 1991 and 10 – 12% from 1995 to 1996.
• The numbers of unemployed have fallen from 19% in 1994 to 8.4% at end-2006, and more women have entered the labor force. Real wages grew by an average of 3.2% annually from 2000 to 2006.
• There has been strong internal immigration, as Spaniards move from rural areas to the towns. Spain’s prosperity is very recent, and till recently Spain was a largely rural country.
• There has been strong internal immigration, as Spaniards move from rural areas to the towns. Spain’s prosperity is very recent, and till recently Spain was a largely rural country.
• Household sizes have become smaller, partly due to the dramatic take-off in the Spanish divorce rate since the early 1980s.
• In the past five years, there has been a substantial inflow of non-EU immigrants.
• Spain hosts 52 million tourists a year, some of whom rent houses. 20% of Spanish households have a second residence.
• Land supply restrictions may be a factor in pushing up Spanish property prices.

Housing conditions are some of the most crowded in the EU, with an average 3.3 people per dwelling. In Spain 82% of the population live in homes that they or their families own. 44% of men and 30% of women aged 30 were still living in the parental home in the mid-1990s, while only 5% of 65-year olds live alone.

While there has been much foreign investment in Spanish property, and while the coastal zones are more highly priced and tend to appreciate more in good times, the timing of market cycles suggests that Spanish property price rises derive from factors internal to the Spanish economy. When the Spanish economy booms, Spanish property prices take off.

Housing purchases are strongly subsidized through mortgage interest tax relief and zero tax on capital gains.

Rent controls

The rented sector is handicapped by rent controls. Only 10% (8% in the private rented sector) of all housing was in the rented sector in 2004, down from 20.8% in 1981. New tenancies were partially liberalized in 1985, but leases must run for a minimum of five years, and it is legally difficult to recoup unpaid rents.

Returns from rentals are therefore generally low. Global Property Guide research shows that Madrid city-centre rental yields range between 2.9% and 4.2%. Properties in Barcelona have lower yields at around 2.6% to 3.75%.

Landlords are often better off keeping units unoccupied because wear and tear occasioned by tenants is often not compensated for by the rental income. In 2001, 14% of the total housing stock was vacant, bigger than the entire rental stock.

To uplift the rental sector and utilize vacant dwellings, the government established a new public property rental agency in 2005, the State Renting Company (La Sociedad Publica de Alquiler), which manages the rental of 1,500 properties, 1,200 of which are privately owned. The company screens tenants and offers just-below market rental rates. Subsidies are also offered for companies, public bodies and individuals purchasing property for the purpose of letting. Additional assistance is also offered to poor tenants under 35 years old.

Land supply restrictions are believed by some to be a major cause of house price rises. The planning system is highly decentralized. Taxes on land sales accrue to local governments, and give them a strong stake in fostering high prices by restricting land supply. In 2001, an attempted reform of the system was thrown out by the Constitutional Court, as an interference with local government powers.

Mortgage market reform

Spaniards traditionally did not finance house-purchases through mortgages. But the liberalization of the mortgage market has changed all that. Outstanding mortgage debt has grown from 14% of GDP in 1990, to 32% in 2001 and to 42% in 2003.

Houses can be financed better and are relatively affordable in cash-flow terms. Indeed, affordability is well below the early 1990s, due to increases in real wages. It could be argued that Spanish house-prices have merely been catching up with the rest of Europe. Despite the house price boom, property prices are still below the UK, Ireland and the Netherlands, Global Property Guide research shows.

Slowdown in price increases

The lower house price growth in 2006 compared to previous years had been expected. Mortgage rates offered by banks inched up to 5.054% in May 2007, from a historic low of 3.072% in August 2005. This is inline with the increase in the key short-term interest rate of the European Central Bank. About 75% of mortgages in Spain are on variable rates, so interest-rate rises could have a substantial impact.

Oversupply is another suspected culprit for the house price slowdown. Since 1987 the construction industry has been churning out ever-increasing numbers of new apartment blocks and houses. Around 600,000 to 750,000 dwellings were initiated from 2003 to 2005; about 60% of them were apartments. The rate of housing investment in building as a share of GDP is only surpassed by Ireland.