Spanish Real Estate: How Hot Is Too Hot?

Spain's love affair with property could damage a healthy economy

When Europe's overheated stock markets collapsed, few in Spain suffered huge losses in their investment portfolios. Never big on buying equities, most Spaniards avoided the worst of the fallout. Instead, they tucked their euros into tangible assets -- especially real estate.

But that love affair with land may yet prove too hot. While Spain's economy is still outperforming its European neighbors, the surging demand for housing may have created a bubble that threatens to undermine that growth. "It appears the market is now overvalued," says Claude Giorno, economist in charge of Spain at the Organization for Economic Cooperation & Development in Paris.

More than 500,000 new homes were built in each of the past six years, according to Barcelona-based savings bank La Caixa. In 2002, ground was broken for more new homes in Spain than in France and Britain combined. Housing bulls are quick to note that so far the market has defied predictions of a glut. But the average cost per square meter for a new house nationwide jumped 92% in the past decade, to $1,428, according to the Bank of Spain. Average salaries, however, grew by only 41% over the same period. "Prices simply cannot go much higher," says Santiago Carbó, a housing expert and economics professor at the University of Granada. "They are near unreachable for the average Spaniard."

Just ask Raquel Pascual, a 29-year-old journalist who recently bought an apartment in central Madrid. She had budgeted $140,000 for a two-bedroom home in a modern building with an elevator, but had to settle for a one-bedroom, third-floor walk-up in a building built in 1936. The price: $174,000. "The idea I had at the beginning had nothing to do with the reality of the market," she says. "It was brutal."


EVEN THE COUNTRY'S central bank is raising a red flag. In a report published on Oct. 2, the Bank of Spain warned that prices for new homes had risen beyond what could be considered a "balanced level." If this inflation continues to pick up steam, it added, the real estate market faces "the risk of a rougher adjustment than desirable." That would be bad news not only for the national economy but also for Europe, since Spain is one of the few bright spots on the Continent.

What's behind the boom? The robust economy has helped, as has the European Central Bank's record-low interest rates. Spain also has a deeper homeowning tradition than Britain, Germany, or France, where people are more prone to rent than to buy. And Spaniards born in the late 1970s -- a previous period of prosperity that led to a surge in birth levels -- have come of age and begun to buy houses.

In areas such as Madrid, Barcelona, or the southern coast, where foreign buyers have also raised demand, prices have more than doubled since 1997; houses are out of reach for many. Socialists have already begun using the issue as a wedge against the governing Popular Party. "This is a bubble that can easily burst," says Cristina Narbona, a socialist deputy in Parliament.

Yet policymakers such as Economy Minister Rodrigo Rato expect a gradual market correction. Most lenders agree. "The market is obviously near the top, but the fundamentals of how it got there have been solid," says Pedro Ruiz-Olivares, chief executive of Santander Central Hispano Activos Inmobiliarios, the real estate division of Spain's largest bank.

Banks, however, are not taking any chances. Roberto Higuera, chief financial officer of Banco Popular, Spain's top mortgage lender, has instructed the bank's officers to meet the still-buoyant demand for home loans with a healthy degree of caution. "We're becoming increasingly prudent," he says. Investors better hope lenders prove prudent enough.

By Paulo Prada in Madrid

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