The real estate market has recently completed a 180-degree turnaround. For years, prices have climbed from one high to the next. That has changed with rising interest rates. What’s next?
In the years after the financial crisis, real estate prices in Germany only knew one direction: upwards. But now the picture looks completely different: they have been falling again since 2022 – and sometimes quite sharply. Last year, prices for German residential real estate fell more sharply than they had in at least 60 years.
According to a study by the German Economic Institute (IW), the downward trend came to a halt at the end of the year. But in 2023 as a whole, condominiums fell in price by 8.9 percent, single-family homes by 11.3 percent and multi-family homes by as much as 20.1 percent, as the Kiel Institute for the World Economy (IfW) recently announced. Especially in the big cities, where prices have risen sharply for many years, prices fell sharply.
Building interest rates higher
The main reason behind the turnaround in the real estate market is the massive increase in interest rates on the market. In the fight against inflation over the past two years, the European Central Bank (ECB) has raised interest rates very quickly and sharply within a very short period of time. This ended its almost 14-year phase of low interest rates, which also has an impact on the residential real estate market.
The building interest rates are indirectly based on the ECB’s key interest rates. Banks primarily refinance their construction financing via Pfandbriefe. Their return is based on the interest rates on ten-year federal bonds, which in turn depend on the development of inflation – and thus also on the key interest rates. At the beginning of 2022, building interest rates were still around one percent with shorter terms. Financing for a house was relatively cheap compared to history. That is no longer the case.
Buyers now pay building interest rates of over three percent, like the data from the Frankfurt FMH financial consultancy show. This is reflected in the monthly loan payment. The construction financing agent Dr. Klein calculates this based on a standard credit rate for a loan of 300,000 euros, ten years of fixed interest rates and two percent repayment. While the monthly rate for this loan was 810 euros in October 2021, a year later it was almost twice as high at 1,500 euros.
Prices are likely to rise again soon
How expensive houses will be in the future depends on many factors. However, some experts assume that the current price decline is just a blip and that prices will soon rise again. “I’m not quite as optimistic that real estate prices will fall for any longer,” says IW real estate economist Michael Voigtländer in the podcast “Gold & Asche: Project Hauskauf”. ARD financial editorial team.
From his point of view, there is a very significant difference from the 1990s, when real estate prices also fell sharply. “It was a phase in which we built a lot.” In the mid-1990s to mid-2000s there were too many apartments in Germany. In addition, there was sometimes higher emigration from Germany. “Rents and prices have hardly increased, and we don’t have that right now.”
One of the biggest price drivers is therefore likely to be the supply of housing, which is currently stagnating while demand is still high. Construction activity in Germany has recently collapsed. From January to August 2023, building permits fell by almost a third compared to the previous year.
Podcast “Gold & Ash: House Purchase Project”
In the first season of “Gold & Asche” the ARD financial editorial team The most important things when buying a house are examined step by step in seven episodes – with background information and expert knowledge. You can hear it in the ARD audio library and wherever podcasts are available. The individual episodes You will find here.
Episode 1: Is it worth buying a house? (21st of February)
Episode 2: The Right Time to Buy a Home (February 21)
Episode 3: How much house can I afford? (February 28)
Episode 4: What do I have to pay attention to when getting a loan? (6th March)
Episode 5: How the state provides financial support for buying a house (March 13)
Episode 6: Everything about energy renovation (March 20)
Episode 7: Was everything better before? (27th of March)
Construction costs rose sharply
Real estate companies are in a serious crisis, which has to do with the sharp increase in the costs of building new apartments. Example Vonovia: At the beginning of 2023, Germany’s largest real estate group stopped all new construction projects for the year and in September even put the completion of around 60,000 apartments on hold for the time being.
This is largely due to the higher construction costs. Building materials such as steel and glass, which are produced in an energy-intensive manner, have become significantly more expensive since the Russian war of aggression on Ukraine as a result of increased energy costs. Experts estimate that construction prices for new residential construction were 36 percent higher last September than in spring 2020.
Carolin Hegenbarth, managing director of the real estate association IVD, explains to the ARD financial editorial team, what higher interest rates and construction costs mean for the real estate industry: “A construction project that could be realized before the crisis at a rent per square meter of 15 euros can now only be economically implemented at a rent of 24 or 25 euros.” And that is simply “unplaceable” on the broader market.
Failures in the past
Because the construction projects that have already begun will in many cases still be completed this year and next year, the major slump will probably only be felt with a delay two or three years later in a further shortage on the housing market. According to the so-called real estate experts, housing construction is still relying on projects that were started before the significant interest rate increases.
“The crisis is deeper than the building completion and building permit figures show so far,” they write in their new spring report. Given the collapse in approval numbers and taking construction times into account, completions are likely to fall to 150,000 per year.
In addition to the current problems such as higher interest rates and more expensive building materials, the industry is also confronted with the failures of previous years, emphasizes Voigtländer. In the 2010s, the new building was overlooked – despite high population growth. Of course, the issue of a shortage of skilled workers, which affects almost all sectors in Germany, is also acute.
“A shortage always means that prices are more likely to rise,” said the expert. Of course there is a certain correction due to interest rate developments. “But the prices will no longer fall that much; I’m afraid they will soon start to rise again.”
Housing shortage in big cities
The problem is, on the one hand, that the supply of available living space is becoming scarcer. On the other hand, demand remains high. According to estimates, there is a shortage of almost 700,000 apartments in Germany. According to the “Social Housing” alliance, this is the greatest housing shortage in 20 years.
It is particularly serious in metropolitan areas. In cities like Munich, Frankfurt and Freiburg there is almost no vacancy. This not only has to do with the increased influx of people, but also with housing needs that have changed over the decades. This includes the increase in living space.
In 1991, a person lived on average in an area of around 35 square meters – in 2021, however, it was almost 48 square meters. In large cities like Munich or Berlin, more than half of all households now consist of just one person. So there are fewer and fewer people living in an ever larger area, which means that living space is becoming more scarce and more expensive, even if the population remains the same.
Lack of building land
Voigtländer also attributes the fact that prices are likely to continue to rise to the lack of building land that the municipalities have to make available. “We are finding it increasingly difficult as a society, for example for ecological reasons,” says the IW economist. The goal of sealing the area also conflicts with the new building. “It is becoming increasingly difficult to release building land.” Even in small communities, prices for land ready for construction rose by 80 percent between 2009 and 2021.
A survey of all municipalities showed that Germany would theoretically have a building area of 99,000 hectares, or the size of Berlin, available – with space for up to two million apartments. However, the space is not necessarily available where demand is highest. Especially in metropolitan areas, the increasing demand for building land and extremely tight supply collide. In cities with more than 500,000 inhabitants, the price of land ready for construction rose by 370 percent in the twelve years to 2021. In large cities, purchasing building land is sometimes 20 times more expensive than in small communities.
And while the need for housing is increasing in cities, up to three million apartments could be empty in rural regions by 2030, according to the Federal Institute for Building, Urban and Spatial Research. Because the demand for apartments there will continue to fall.
Regulations, building standards and trends
In addition, the many requirements and regulations during construction are seen as driving up prices on the real estate market. The German Association of Cities and Municipalities wrote in 2020 that there are 16 different state building regulations and over 20,000 regulations in the construction sector alone. According to the construction cost index of the Construction and Real Estate Law Working Group, a third of the increase in construction costs since 2000 can be attributed to new legal regulations.
“So what has happened over the last 60 years – ever higher standards – makes construction more complicated and slower. And therefore more expensive,” says IVD managing director Hegenbarth. You now have greater comfort, better sound insulation, more accessibility and higher security. “But we are increasingly exaggerating the standards.”
Furthermore, factors such as the perceived quality of life in certain regions also play a role in price increases. For example, it cannot be mathematically explained why Munich is so expensive, says Voigtländer. The city is significantly more expensive in relation to income than Hamburg or Berlin. “There is a very high ability to pay or suffer.”
Ultimately, the real estate market is always about trends. Economist Günter Vornholz from Immobilien Research says about price developments that it is a normal real estate cycle: “It goes up and down again. At some point the trough will be passed and then the euphoria will begin again.”
With information from Till Bücker, ARD financial editorial team.