House prices could face a 'disorderly' fall due to rate hikes
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Increasing mortgage rates could see a “disorderly” fall in house prices within the eurozone if higher rates continue to reduce demand for homes, a financial review from the European Central Bank (ECB) has found.
The review warned tightening financial conditions are testing the resilience of households, firms, governments as well as property markets. The ECB is due to meet on June 15 to decide whether it should increase interest rates further. Another 0.25% increase is expected.
According to the May 2023 Financial Stability Review, housing markets in the eurozone are “undergoing a correction”, with house prices having “cooled considerably over the last few months”, which is reducing overvaluation in the sector.
However, it said while price adjustments have been orderly so far “they could turn disorderly if higher mortgage rates increasingly reduced demand”.
“Commercial real estate markets remain in a downturn, facing tighter financing conditions and an uncertain economic outlook, as well as weaker demand following the pandemic. The ongoing correction could test the resilience of investment funds with interests in the commercial real estate sector,” the review said.
It noted demand for new loans, particularly mortgages, declined sharply during the first three months of the year across the eurozone in response to interest rate increases.
Luis de Guindos, vice-president at the ECB, said price stability was “crucial for durable financial stability”, adding that as monetary policy is tightened, in order to reduce inflation, vulnerabilities in the financial system can be revealed.
“It is critical that we monitor such vulnerabilities and fully implement the banking union to keep them in check,” he said.
The review found while economic conditions have improved slightly, uncertain growth prospects, along with high inflation and increasing interest rates, continue to impact households, businesses, and governments.
It added businesses who came out of the pandemic with greater debt and weaker earnings were going to be particularly vulnerable to tighter financing. At the same time, high inflation is hitting households by reducing their purchasing power and impacting their ability to repay loans.
The ECB said eurozone banks have proved resilient against the collapses of banks in the US and Switzerland due to strong capital and liquidity positions mandated by regulators.
“It will be essential to preserve this resilience amid some concerns about banks’ ability to build up capital,” the ECB said.
“There are already signs of deteriorating asset quality in loan portfolios exposed to commercial real estate, smaller firms and consumer loans. Banks may therefore need to set aside more funds to cover losses and manage their credit risks.”