Germany: households with ambitions to become owner-occupiers need to save harder for a housing down-payment. Renters can anticipate higher rents in future and are likely to be more cautious in their spending decisions...Working Paper - ECB.

13/05/2016                                     PUBLICATION

The housing market, household portfolios and the German consumer

Non-technical Summary

 Germany is undergoing its first house price boom in many years. House price booms in Anglo-Saxon economies such as the US and Ireland and their collapse were an important part of the financial accelerator. The transmission of house price shocks into economic activity occurred via construction and consumption and there were amplifying effects via credit creation. These were most dramatic on the downside as property loan defaults built up, damaging bank balance sheets and triggering reductions in credit availability, with feedback effects on house prices and on economic activity both directly and via house prices.

 This raises two questions about recent German house price movements: is there a similar transmission via consumption into economic activity? And are German house prices becoming overvalued? There are also perennial questions about the impact of income, income growth expectations, credit availability, risk appetite, pension reform, demography and financial wealth on consumption and household saving rates in Germany. These are the questions the paper attempts to address. More generally, the German case examined in this paper throws further light on key aspects of the interaction between the financial sector and the real economy as well as on monetary policy transmission given portfolio balance data. Since international patterns of institutions, household portfolios and of house price movements are diverse, it is important to understand their role. Moreover, structural changes due to shifts in credit market architecture potentially can radically change the linkages between household portfolios and consumer spending. 

An economy in which such structural changes have been small is an enlightening reference point for comparisons with economies with large structural changes. This paper analyses the links between German household consumption and household portfolios of assets, including housing, financial assets and debt. A six-equation equilibrium correction system for consumption, house prices, consumer credit, housing loans, liquid assets, and permanent household income uses latent variables to represent potentially important shifts in the availability of the two types of credit to households, controlling also for changes in risk appetite, and examines the impact of pension reform and demography. A key feature of the approach is that it captures the credit and monetary policy channels operating via house prices and household balance sheets ultimately affecting spending. The analysis covers the time span 1981– 2012. The main findings are as follows. Firstly, Germany differs greatly from the AngloSaxon economies in the effective absence of home equity withdrawal, in the conservative lending standards historically applied for housing loans and in the low level of owneroccupation.

 The implication is that higher house prices at given incomes and given income growth expectations are likely to reduce rather than to increase aggregate consumption in Germany: households with ambitions to become owner-occupiers need to save harder for a housing down-payment. Renters can anticipate higher rents in future and are likely to be more cautious in their spending decisions.

 With the appropriate controls in our model for aggregate consumption, we find evidence consistent with this interpretation. Secondly, mortgage market liberalization in Germany since the late 1980s has been very modest and by 2012 there was no sign of a worrying recent credit explosion as occurred ECB Working Paper 19xx, May 2016 2 in the US, Ireland or Spain in the run-up to the 2008 crisis. This major source of house price vulnerability is absent in Germany. Given housing supply, income growth and low interest rates, house prices in Germany in 2012 do not look overvalued on aggregate...

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