Practical analysis for investment professionals
24 September 2012

European Sovereign Debt Crisis: Up Next, a German Real Estate Bubble?

Posted In: Economics

Where there’s one cockroach, there’s fire! Wait, that’s not quite right. Where there’s smoke, there’s a lot more cockroaches! No, that’s not it either. Let’s see . . . ah, yes . . . where there’s smoke, there’s fire!  And when you see one cockroach you can bet there are more lurking out of sight. So which analogy — smoke or cockroaches — best describes German real estate? It may well be both. Real estate prices in Germany suggest that trouble is afoot. Pay attention: This should worry every investor in the world.

As the European sovereign debt crisis drags on, I have begun to focus my attention on Germany. Recently, I came across a table of German real estate price changes. Consider the quarterly price changes of the following seven-city index of real estate prices:

Germany: Real Estate Prices for Seven Cities

Germany: Real Estate Prices for Seven Cities

Sources: Bundesbank, BulwienGesa AG, CFA Institute.

First thought? Is a real-estate bubble in the offing?  If so. . . . Oh my! Germany is considered the bulwark of the European Union. While everyone discusses Germany’s fiscal strength and probity, fewer investors may realize that the German dream might well be structurally unsound.

How could Germany be experiencing a real estate bubble in the midst of the euro crisis? It’s quite simple, actually: the European Central Bank has lowered rates in response to the global financial crisis that began in 2008, and then dropped rates dramatically in response to the euro crisis, which didn’t gain steam until late 2009, and then pushed rates near zero in late 2011 — where they have remained. As illustrated in the chart below, real estate prices have risen in conjunction with falling rates for the same seven-city index (the data are quarterly figures through June 2012).

Germany: Seven-Cities Real Estate Prices vs. Five-Year Bond Yields

Germany: Seven-Cities Real Estate Prices vs. Five-Year Bond Yields

Sources: Bundesbank, BulwienGesa AG, CFA Institute.

Now, just in case you think that this seven-city index is an anomaly, consider the Bundesbank’s 125-city index through 2011 (the data are annual figures through December 2011).

Germany: Real Estate Prices for 125 Cities

Germany: Real Estate Prices for 125 Cities

Sources: Bundesbank, BulwienGesa AG, CFA Institute.

And all this growth in real estate is happening even though the German population is declining. That’s right: Germany has a population in decline.

Germany: Population in Decline

Germany: Population in DeclineSources: Statistiches Bundesamt, Haver, CFA Institute.

So, where is all the new real estate demand coming from? In part, the periphery of the European Union. As noted in a recent piece in Der Spiegel, many Italians are now investing in German real estate as a way to protect their money against the backdrop of the euro crisis. In a worst-case scenario — if the euro were to break up, then the German deutschmark would be reintroduced, and it is widely believed that the currency would gain materially against the remaining euro member currencies (to balance trade deficits). So in a eurozone breakup scenario, a German real estate investor would pick up a substantial currency gain. And shy of that (unlikely) scenario, investors in the European periphery can avoid the instability of their homeland.

Demand is also coming from institutional investors. As noted in this clip from Press TV, institutional real estate investors are snapping up German real estate and driving up prices and rents. The underlying momentum for the creation of a real estate bubble is now established. However, we can’t simply look at real estate prices in isolation as purely a monetary phenomenon without acknowledging the structural flaws at work within the eurozone. For starters, because it is a monetary union only, trade imbalances within the eurozone will persist. Since Germany has maintained a persistent trade surplus within the eurozone, Germans have strengthened their household income, employment, and the overall economy at the expense of weaker eurozone neighbors. Currencies in a “free exchange rate” regime normally offset these imbalances by adjusting until trade approaches balance. However, Germany has entered a fixed exchange-rate system within the euro zone and, as such, it works to Germany’s advantage by preventing its trading partners from revaluing or devaluing their currencies.

This faulty structure has led the eurozone straight into crisis. Germany is now left with two choices: First, the country can unwind the euro and go back to the deutschmark. This would force the value of the deutschmark to rise relative to the remaining euro area currencies and correct the imbalances — thereby reducing exports, employment, and income. When employment and income decline, what do you think happens to the housing market? Hold that thought.

Second, and more likely, Germany and the EU will forge ahead with some form of fiscal union. Some think that there is already a covert fiscal union as the ECB is buying sovereign bonds of select peripheral nations. As such, it is the mechanism to engage in transfers from the stable, northern eurozone economies to the weaker, peripheral nations which, in effect, is somewhat similar to what would happen in a formal fiscal union. By way of example, the United States was born with a monetary union, fiscal union, and political union. As such, people in Wisconsin regularly fund people in Illinois. Also, people in Utah regularly fund people in Colorado. And so on. This occurs through nationalized programs such as welfare and housing in which money is taxed from all tax-paying citizens nationally and redistributed in wide variety of ways that differ from natural geographic boundaries of states.

Likewise, in whatever form a fiscal union takes, if money goes from country A (Germany) to country B (say, Spain), then it is a fiscal union. The only issue is how efficient or dysfunctional it is. In any event, to the degree there is a fiscal union (or quasi-fiscal union), then the Germany economy will be harmed on the margin — meaning that the country will face less income and less employment than it otherwise might.

And when employment and income decline, what do you think happens to the housing market? Deja vu!

Now, in all fairness, Germany does have a more flexible real estate market than many other European economies, so creating additional supply is much easier in Germany than it is in, say, the UK. Yet prices are escalating despite this flexibility. All things considered, does it now make a little more sense why the EU just wants to kick the can down the road?

My personal view: This won’t end well.

Please note that the content of this site should not be construed as investment advice, nor do the opinions expressed necessarily reflect the views of CFA Institute.

About the Author(s)
Ron Rimkus, CFA

Ron Rimkus, CFA, was Director of Economics & Alternative Assets at CFA Institute, where he wrote about economics, monetary policy, currencies, global macro, behavioral finance, fixed income and alternative investments, such as gold and bitcoin (among other things). Previously, he served as SVP and Director of Large-cap Equity Products for BB&T Asset Management, where he led a team of research analysts, 300 regional portfolio managers, client service specialists, and marketing staff. He also served as a Senior Vice President and Lead Portfolio Manager of large-cap equity products at Mesirow Financial. Rimkus earned a BA degree in economics from Brown University and his MBA from the Anderson School of Management at UCLA. Topical Expertise: Alternative Investments · Economics

13 thoughts on “European Sovereign Debt Crisis: Up Next, a German Real Estate Bubble?”

  1. Ritesh says:

    Amazing article, do you understand Indian markets too? have you considered writing on indian real estate? (if by any chance you know about)

  2. Great Post. Germany: Real Estate Prices for 125 Cities base on graph rising. I was amazed considering 125 Cities having real estate is big enough I don’t had any idea how to handle it. Do yo used ASLG System?

    1. Hi Anthony,

      Don’t know what ASLG is… I got the data directly from the Bundesbank web site. Hope this helps!

  3. A very good article on real estate business with a wonderful graphs. thank you for posting.

  4. Tamer says:

    insightful article, and i believe you will be proud of it for long time, may be by the end of 2013

  5. Erhard says:

    I suggest you look at the price development of residential real estate comparatively over a longer period of time, say 15 years:
    Real estate prices in Germany have increased very little over that time period. See the graph at:

    Due to the introduction of the Euro Spain for example was able borrow money at much lower rates then before. This led to the real estate bubbles in Spain. In Germany interst rates did not change much and nor did real estate prices. The link below is to Prof. Sinn’s explanation, unfortunately I couldn’t find a presentation in English.

  6. Subhagruha says:

    It is in point of fact a great and helpful piece of information.

  7. Ben says:

    Dear Ron,

    With interest I read your article on the CFA-website regarding a German real estate bubble. I’m triggered by your graphs and opinion. For a next article, I would suggest to incorporate some of the following factors in your equation:

    – Longterm price development: what happened in the last 20 years?

    – Rent-to-Income levels: which portion of their income do German’s spend on housing costs; and how does this compare to eg France/UK/Swiss/Austria?

    – Loan-to-Value levels: are German property investments highly geared?

    – Interest levels: what does debt cost private homeowners in Germany?

    – Prices per sqm: what does the average apartment cost per sqm in one of the big-7 cities Dusseldorf, Cologne or Stuttgart, and how does this compare to eg Vienna, Antwerpen or Utrecht?

    – Length of trend momentum: how long have historic property price cycles taken?

    Maybe these data could add to your argument?

    (As a hint and side-note: German property prices where at the same price level in 2008 as in 1990; German’s still enjoy affordable housing with housing costs <25% of income; German's have to bring 30% equity for purchases; bank margins on mortgages are low; prices/sqm are significantly lower than in other European cities, and property-price uptrends usually last for 10-15 years)

    We are now 1 year post your column; and German propertyprices have gained further, Should I be wrong in 2 years from now (and should you be right); please be sure to bring it to my attention 😉

    Kind regards, Ben from Amsterdam

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