What to Expect from the Housing Market in

What to Expect from the Housing Market in 2015 ? Angelika Kallakmaa-Kapsta

Angelika Kallakmaa According to the Eurostat 15. 04. 2015 “House prices up by 1. 1% in the euro area and up by 2. 6% in the EU” (Fourth quarter of 2014 compared with fourth quarter of 2013) Among the Member States the highest annual increases in house prices in the fourth quarter of 2014 were recorded in Ireland (+16. 3%), Malta (+11. 0%), Sweden (+10. 4%), Estonia (+10. 1%) and the United Kingdom (+10. 0%), and the largest falls in Slovenia (-4. 4%), Cyprus (3. 3%), Latvia (-3. 2%) and Italy (-2. 9%).

Angelika Kallakmaa Annual deflated HPI by Member State 2014

Angelika Kallakmaa The Structure • The development and changes of economic environment • The factors influencing housing market • The regulatory framework • Conclusions

Angelika Kallakmaa The economic background 2010 2011 2012 2013 2014 2015* 2016* 2017* Real GDP growth (%) 3, 1 7, 6 3, 2 0, 8 2, 1 2 2, 8 3, 4 Real private consumption growth (%) -1, 8 4, 4 4, 2 4, 5 4, 8 2, 4 Unemployment rate (%) 16, 9 12, 5 10, 2 8, 6 7, 4 6, 1 5, 8 5, 5 Real wage growth (%) -2 0, 4 1, 7 4, 9 5, 7 4, 6 3 3, 2 Private sector debt, outstanding amount change (%) -6, 5 -4, 3 1, 6 1, 3 4 3, 8 4, 4 n/a

Angelika Kallakmaa The Estonian real estate market (being the smallest among Central and Eastern European (CEE) real estate markets) • started to grow rapidly after 2000 • and the price rise turned into a decline after 2007 when the housing prices had reached their maximum

Angelika Kallakmaa Dwelling price index (Statistics Estonia)

Angelika Kallakmaa Notarised Purchase-Sale Contracts

The demand Angelika Kallakmaa • Income • Demographic situation • Credit availability • Mortgage rates • Maintenance costs • Tax system (income and property taxis) • Public sector support schemes • Expectations

Angelika Kallakmaa The average and median gross wages

Angelika Kallakmaa Households purchasing power • Although nominal wages increased less in 2014 compared to 2013, the average real wage which determines the purchasing power of households continued to increase. • Low inflationary environment and reducing of income tax (by 1%) supports the growth of real wages in 2015 improving the economic situation of working households.

Angelika Kallakmaa Housing affordability • Purchase affordability • Repayment affordability

Purchase affordability Angelika Kallakmaa • P/I ratio indicates how many months one person with an average income should work so he/she could buy one square metre of an average dwelling. • If the price - to - income ratio is 1, then it is the socalled equilibrium point for the housing market, and a person with an average income can afford to buy an average home.

P/I ratio for Estonia and Tallinn using average data Angelika Kallakmaa

P/I ratio for Estonia using median data Angelika Kallakmaa

Angelika Kallakmaa Trends using median data

Angelika Kallakmaa The Median Multiple This indicator rates affordability of housing by dividing the median house price by gross (before tax) annual median household income. This measure has historically hovered around a value of 3. 0 or less

Angelika Kallakmaa Housing Affordability Rating Categories Rating Severely Unaffordable Seriously Unaffordable Moderately Unaffordable Affordable Median Multiple 5. 1 & Over 4. 1 to 5. 0 3. 1 to 4. 0 3. 0 & Under

Angelika Kallakmaa The Median Multiple for Estonia

Angelika Kallakmaa Repayment affordability • The Housing Affordability Index (HAI) normally measures the degree to which a typical family can afford the monthly mortgage payments on a typical home.

HAI for Estonia using average data (Kallakmaa, 2011, 2013) Angelika Kallakmaa

HAI using median data for Estonia Angelika Kallakmaa

Angelika Kallakmaa According to the Bank of Estonia • the growth in the volume of housing loans in 2015 continues to grow steadily • companies took in first quarter 2015 out 12% more in long-term loans during the quarter than they did a year earlier • and almost half of those went for financing real estate projects.

Angelika Kallakmaa Turnover of housing loans

The stock of housing loans and households deposits Angelika Kallakmaa

Stock of loans Angelika Kallakmaa

Angelika Kallakmaa Systemic risk Credit booms in real estate markets can create substantial risks to financial stability and the real economy. “Deregulation boosts the supply of mortgage credit, which has significant end effects on house prices. ” (Favara and Imbs, 2011).

Angelika Kallakmaa Housing loans (Bank of Estonia)

Systemic risk Angelika Kallakmaa The risk that problems at one institution endanger the rest of the financial system. The risk of disruption in the financial system with the potential to have serious negative consequences for the internal market and the real economy (ESRB legislation) From micro prudential to macro prudential supervisory (after 2008)

Credit policies Angelika Kallakmaa • Demand-side policy instruments * maximum LTV ratio * limit the DSTI ratio • Supply-side policy instruments * Provisioning requirements * Risk weighting * Exposure limits • Housing relates tax policies * wealth taxes * subsidies * tax deductibility of mortgage interest payments

Angelika Kallakmaa Demand-side policy instruments LTV ratio until 2002 (max 2/3 of property value) From 1 March 2015 * LTV ≤ 85 % * DSTI ≤ 50 % * The maximum permitted maturity of a housing loan contract is 30 years

Angelika Kallakmaa Limits for permitted exceptions • Bank of Estonia allows up to 15% of the total volume of new housing loans issued by each bank in a quarter not to meet one or more of the three requirements • The limit to the permitted exceptions will apply throughout the period to the total value of housing loans issued, not to the number of loans.

Angelika Kallakmaa Supply-side policy instruments (1) • The capital adequacy ratio for credit institutions was from 1997 -2014 10% • 2005 Bank of Estonia decided to raise the risk weighting on housing loans used for calculating capital adequacy from 50 to 100 per cent ( The new procedure entered into force in March 2006) • September 2006, Bank of Estonia raised the mandatory reserve requirement for banks from 13% to 15%

Angelika Kallakmaa Supply-side policy instruments (2) § The systemic risk buffer (From 1 August 2014 y 2% systemic risk buffer requirement applies for all banks and banking groups licensed in Estonia) § Countercyclical capital buffer (Bank of Estonia is planning to be ready to apply a countercyclical capital framework in 2015)

Angelika Kallakmaa Housing relates tax policies • Tax deductibility of mortgage interest payments (the Income Tax Act adopted in 1993 provided for the possibility of deducting housing loan interests from taxable income) • Land tax Act (Tax exemptions from 2011 for homeowners) • Kredex housing loan guarantee

The Income Tax Act (1) Angelika Kallakmaa • 1993 no restrictions on the amount of money deductable from taxable income • In 1999, for only one dwelling at a time. • In 2001, an additional restriction was added: the maximum amount deductable from taxable income was 6391 EUR per one taxpayer. • The maximum deductable amount 3196 EUR per one taxpayer. Decision was made in 2003, entered into force only at the beginning of 2005

Angelika Kallakmaa The Income Tax Act (2) • From 2012 The deductions provided for in Income Tax Act are altogether limited to 1920 euros per taxpayer during a period of taxation • and to not more than 50 per cent of the taxpayer's income taxable in Estonia for the same period of taxation

Kredex quarantee Angelika Kallakmaa • Target group: young families, young specialists, tenants of restituted houses and from 2013 also the veterans of the Defence Forces • Lower self financing amount for housing loans • In 2014 13, 1 % of the volume of housing loans issued in Estonia (2013 12, 4 %, 2012 10, 5 % )

The volume of housing loans issued with a Kred. Ex guarantee Angelika Kallakmaa

Angelika Kallakmaa Discussion • “Risk migrates to where regulation is weakest, so there are natural limits to what regulatory strategies can reasonably achieve” (Haldane et al. , 2010)

Conclusion (1) Angelika Kallakmaa • There is a GDP growth, but it is and remain to be slower than before the crisis • There is a cap between average and median income (slightly growing) • There is demand for high quality housing • The Land Tax exemption helps more households with expensive assets

Conclusion (2) Angelika Kallakmaa • The capitalisation of credit institutions has remained high • The funding of credit institutions operating in Estonia is increasingly based on domestic households deposits • Systemic risk is reduced by using macro prudential tools

What to expect? (1) Angelika Kallakmaa The differentiation will increase Purchase affordability • Real income is rising and P/I for households with average income is near to equilibrium • Median data shows affordability problems Repayment affordability • HAI index (exl. the maintenance costs) shows ability to serve the housing loans • Risk is bound up with rising maintenance costs Households repayment ability seems to be stronger then purchase ability, but situation is worsening for persons with median income

Angelika Kallakmaa What to expect? (2) • Historically low mortgage rates and high capitalisation of credit institutions support the credit availability • The macro prudential tools are avoiding the risk of a credit boom in the future, but no major impact in current situation • Mortgage rates will rise

What to expect? (3) Angelika Kallakmaa The differentiation must increase • Housing price increases will decelerate • The prices of dwellings with poor quality are expected to fall • Difference between the prices of old and new constructions must be increase regarding the mismatch between demand for new and high quality housing comparing with surplus of old housing

Angelika Kallakmaa Thank you! angelika. kallakmaa@tallinnlv. ee