Macroeconomic developments in the Irish housing market DATE 21 st - PowerPoint PPT Presentation

Macroeconomic developments in the Irish housing market DATE 21 st June 2018 Event Exploring developments in the Irish housing & mortgage market VENUE ESRI, Whitaker Square, Sir John Rogerson’s Quay, Dublin 2 AUTHOR Kieran McQuinn Research completed as part of ESRI/Dept of Housing Research Programme on Housing Economics www.esri.ie @ESRIDublin #ESRIevents #ESRIpublications www.esri.ie @ESRIDublin #ESRIevents #ESRIpublications

This paper • First part of the housing research programme • McQuinn K. (2017): Irish house prices: Deja vu all over again? Special article, QEC. • Results here are an update of this paper www.esri.ie @ESRIDublin #ESRIevents #ESRIpublications www.esri.ie @ESRIDublin #ESRIevents #ESRIpublications 2 21 June 2018

Outline • Addresses “stability” of current price levels • Using a number of approaches • Cross-country comparisons • Econometric estimates of: - Fundamental House Prices • Conclusions www.esri.ie @ESRIDublin #ESRIevents #ESRIpublications www.esri.ie @ESRIDublin #ESRIevents #ESRIpublications 3 21 June 2018

Cross-country developments Percentage Change in Nominal Cross-Country House Prices Country Q4 1995 – Q4 2007 Q4 2007 – Q4 2013 Q4 2013 – Q4 2017 Ireland 431 -49 57 UK 240 -7 28 Spain 199 -30 6 France 157 -1 2 US 96 -12 25 Italy 89 -16 -8 Germany -5 13 21 Source: Federal Reserve Bank of Dallas www.esri.ie @ESRIDublin #ESRIevents #ESRIpublications www.esri.ie @ESRIDublin #ESRIevents #ESRIpublications 4 21 June 2018

House price to disposable income ratios (2000-2017) 120 110 100 90 80 70 60 50 40 2000Q1 2001Q3 2003Q1 2004Q3 2006Q1 2007Q3 2009Q1 2010Q3 2012Q1 2013Q3 2015Q1 2016Q3 Germany Spain France UK Ireland US Average Source: Author’s Analysis www.esri.ie @ESRIDublin #ESRIevents #ESRIpublications www.esri.ie @ESRIDublin #ESRIevents #ESRIpublications 5 21 June 2018

Counter-factual analysis • Take the average cross-country ratio 𝐵 𝑄 𝑢 • 𝐽 𝑢 • Multiply it by the Irish index of disposable income 𝐵 𝐷𝐺 = 𝐽 𝐽𝑢 × 𝑄 𝑢 • 𝑄 𝐽𝑢 𝐽 𝑢 • Scenario suggests: - Overvaluation in 2006/2007 period followed by - Undervaluation from 2008 onward www.esri.ie @ESRIDublin #ESRIevents #ESRIpublications 6 21 June 2018

Irish house prices (2000-2017) 130 120 110 100 90 80 70 60 50 40 2000Q1 2001Q3 2003Q1 2004Q3 2006Q1 2007Q3 2009Q1 2010Q3 2012Q1 2013Q3 2015Q1 2016Q3 Counter-factual Actual Source: Author’s Analysis www.esri.ie @ESRIDublin #ESRIevents #ESRIpublications www.esri.ie @ESRIDublin #ESRIevents #ESRIpublications 7 21 June 2018

Irish house price to rent ratio (1990 – 2018) 21.5 19.5 17.5 15.5 13.5 11.5 9.5 7.5 1990Q1 1992Q1 1994Q1 1996Q1 1998Q1 2000Q1 2002Q1 2004Q1 2006Q1 2008Q1 2010Q1 2012Q1 2014Q1 2016Q1 2018Q1 Source: Author’s Analysis www.esri.ie @ESRIDublin #ESRIevents #ESRIpublications www.esri.ie @ESRIDublin #ESRIevents #ESRIpublications 8 21 June 2018

Comparison with certain US cities 50 45 40 35 30 25 20 15 10 5 0 Source: Author’s Analysis www.esri.ie @ESRIDublin #ESRIevents #ESRIpublications www.esri.ie @ESRIDublin #ESRIevents #ESRIpublications 9 21 June 2018

House price to rent ratio (Dublin v National) 22 21 20 19 18 17 16 15 2008Q2 2009Q2 2010Q2 2011Q2 2012Q2 2013Q2 2014Q2 2015Q2 2016Q2 2017Q2 Ireland_RTB Dublin_RTB Source: Author’s Analysis www.esri.ie @ESRIDublin #ESRIevents #ESRIpublications www.esri.ie @ESRIDublin #ESRIevents #ESRIpublications 10 21 June 2018

Fundamental house price estimates • Common within Irish house price literature; Murphy (2005), Roche (2001; 2003), McQuinn & O’Reilly (2007), Kelly & McQuinn (2014), McQuinn (2014). • Three different econometric specifications i. House prices = ƒ(demographics , disposable income and unemployment rates) ii. House prices = ƒ(affordability and ratio of housing stock to population) iii. House prices = ƒ(disposable income per capita, user cost of capital and housing stock per capita) www.esri.ie @ESRIDublin #ESRIevents #ESRIpublications www.esri.ie @ESRIDublin #ESRIevents #ESRIpublications 11 21 June 2018

Fundamental house price estimates • Results are closely correlated • At present market is ≈ equilibrium • Expected developments in • Affordability, demographics, monetary policy • Low supply response • Continued upward housing demand www.esri.ie @ESRIDublin #ESRIevents #ESRIpublications 12 21 June 2018

Actual and fundamental house price estimates 5 4.9 4.8 4.7 4.6 In Logs 4.5 4.4 4.3 4.2 4.1 4 2000Q1 2001Q3 2003Q1 2004Q3 2006Q1 2007Q3 2009Q1 2010Q3 2012Q1 2013Q3 2015Q1 2016Q3 2018Q1 Actual Model 1 Model 2 Model 3 Source: Author’s Analysis www.esri.ie @ESRIDublin #ESRIevents #ESRIpublications www.esri.ie @ESRIDublin #ESRIevents #ESRIpublications 13 21 June 2018

Deviation from fundamental prices (%) 60 50 40 30 20 10 0 2000Q1 2001Q3 2003Q1 2004Q3 2006Q1 2007Q3 2009Q1 2010Q3 2012Q1 2013Q3 2015Q1 2016Q3 2018Q1 -10 -20 -30 -40 Model 1 Model 2 Model 3 Source: Author’s Analysis www.esri.ie @ESRIDublin #ESRIevents #ESRIpublications www.esri.ie @ESRIDublin #ESRIevents #ESRIpublications 14 21 June 2018

Future scenario • Error-correction model: • Examine future price movements • Forecasting from 2018 to 2020 • Values for capital stock, population levels, disposable income (QEC), • Interest rates (two scenarios); constant & gradually increasing rate www.esri.ie @ESRIDublin #ESRIevents #ESRIpublications 15 21 June 2018

Future interest rate scenarios (%) 6.00 5.50 5.00 4.50 4.00 3.50 3.00 2.50 2000Q1 2002Q1 2004Q1 2006Q1 2008Q1 2010Q1 2012Q1 2014Q1 2016Q1 2018Q1 2020Q1 Scenario 1 Scenario 2 Source: Author’s Analysis www.esri.ie @ESRIDublin #ESRIevents #ESRIpublications www.esri.ie @ESRIDublin #ESRIevents #ESRIpublications 16 21 June 2018

Historical and future house price levels (index) 140.0 130.0 120.0 110.0 100.0 90.0 80.0 70.0 60.0 50.0 2000Q1 2002Q1 2004Q1 2006Q1 2008Q1 2010Q1 2012Q1 2014Q1 2016Q1 2018Q1 2020Q1 Scenario 1 Scenario 2 Source: Author’s Analysis www.esri.ie @ESRIDublin #ESRIevents #ESRIpublications www.esri.ie @ESRIDublin #ESRIevents #ESRIpublications 17 21 June 2018

Could house prices fall in short-run? • Prices fall due to • Collapse of a bubble - No sign of one yet • Significant deterioration in “fundamentals” - Increase in mortgage rates? - Sudden decline in income levels? - Sharp rise in unemployment • Most unlikely www.esri.ie @ESRIDublin #ESRIevents #ESRIpublications 18 21 June 2018

Back of the envelope assessment • If prices are in equilibrium • Should move in line with fundamentals? • Across countries: - Income elasticity of house prices ≈ 1.5 – 2.0 % • Most commentators: - Forecast income growth of 3.5 to 4 % • Suggests house price increases of 6.5%? www.esri.ie @ESRIDublin #ESRIevents #ESRIpublications 19 21 June 2018

Where are recent price increases coming from? Figure: Annual Growth (%) in average purchased property prices per quintile 30 20 10 0 2011 2012 2013 2014 2015 2016 2017 -10 -20 -30 Quintile 1 Quintile 2 Quintile 3 Quintile 4 Quintile 5 Source: Property Price Register www.esri.ie @ESRIDublin #ESRIevents #ESRIpublications 20 21 June 2018

Housing demand now: • Price increases • More significant at the lower end of the distribution (prices) • Affordability challenges now more pressing • For the lower end of the income distribution? • Macro prudential regulations • Limiting demand at the high end of the price distribution? • If so • Similar to other markets – London for example www.esri.ie @ESRIDublin #ESRIevents #ESRIpublications www.esri.ie @ESRIDublin #ESRIevents #ESRIpublications 21 21 June 2018

How elastic are prices w.r.t. supply? • Forecast assumes: Year Supply 2018 23,400 2019 29,700 2020 36,700 • Sensitivity: • Keep supply fixed at 18,500 units per annum • House prices only 0.5 per cent higher than baseline • Point to note: • Estimates generated during Celtic Tiger era www.esri.ie @ESRIDublin #ESRIevents #ESRIpublications www.esri.ie @ESRIDublin #ESRIevents #ESRIpublications 22 21 June 2018

The role of credit: • Models assumes a steady-state relationship wherein credit conditions do not change • Any changes in mortgage credit availability would have a strong influence on future house prices • Models can be augmented to include an indicator for mortgage credit supply (Duca et al. 2014) • 1.0 per cent increase in credit supply estimated to contribute towards a 0.4 per cent increase in prices www.esri.ie @ESRIDublin #ESRIevents #ESRIpublications www.esri.ie @ESRIDublin #ESRIevents #ESRIpublications 23 21 June 2018

Influence of Credit Provision • This responsiveness to credit provision should vary over time as credit conditions change • McQuinn (2017) provides an alternative indicator of mortgage credit provision, producing a time-varying estimate • Enables the observation of responsiveness of house prices to changing credit conditions under an Irish context www.esri.ie @ESRIDublin #ESRIevents #ESRIpublications www.esri.ie @ESRIDublin #ESRIevents #ESRIpublications 24 21 June 2018