What goes up, must come down: Sweden’s housing market post 2015

Sources in the media are generally quick to point out two main reasons behind the sky-high increase in housing prices. One involves the Central Bank. Inflation was last at the Riksbank’s 2.0% target in early 2012 and has since fallen to near-zero levels. The Riksbank has attempted to resuscitate inflation with ultra-loose monetary policy, including cutting rates to cub-zero levels and initiating a large scale qualitative easing (QE) style program.  While the impact of this tactic on inflation is hard to discern, there is a growing consensus amongst economists that low interest rates have fostered a housing bubble by making mortgages less expensive.

According to a number of media reports, interest rates are not the only reason behind rising house prices. Another reason that is often cited is the unprecedented number of asylum seekers who entered Sweden last year—the country is renowned for its generous state support of migrant integration. As conflict in the Middle East began to force millions of people from their home countries, Sweden received and required housing for over 160,000 asylum seekers in 2015, the most per capita of any European country. However, the influx of recently-arrived migrants is not the only factor at play. Prices begin increasing several years before 2015 when the bulk of migrants arrived. Structural problems in the construction industry as well as inefficient regulations such as rent control and residential taxes created a supply shortage that pushed prices up as early as 2012.

Source: House price index from NASDAQ OMX Valueguard-KTH Housing Index(TM) and plotted on the right scale. Building permits from Statistics Sweden are on the left scale. This shows the flow of new building permits for new residential construction, in thousands for Stockholm, Gothenburg and Malmo summed per quarter.

Source: Population Data and construction data collected by the Riksbank 

As house prices ascended and the population increased, construction did not keep up pace.  As seen in the dotted trend line for residential building permits issued in Chart 1, the number of housing permits granted has remained more or less unchanged despite the soaring house prices. Chart 2 illustrates a similar picture by showing that the population has increased far beyond the number of new residential units constructed.

Source: Statistics Sweden and Valueguard. Data collected by the Riksbank.

Icarus’ flight

Tightness in the labour market threatens to cause such a disruption. According to some/government/independent sources, 61% of Swedish companies have reported difficulties in hiring new employees, largely because of exorbitant housing costs . When companies are not able to compensate employees for the cost of housing, they are not able to hire new employees and businesses are not able to grow. In April, Swedish online music giant Spotify, declared in an open letter that it could be forced to take jobs outside of Sweden as inflated housing prices make it difficult to attract talent.

Source: House price and debt ratio data collected by the Riksbank.

The Riksbank has repeatedly warned the government over the risks associated with increasing house prices and growing mortgage debt. Debt to income for apartment owners has risen 31% since 2007 and average debt to income levels for Swedish households now exceed 178%, higher than most developed countries. Should growth slow substantially, and drag down incomes with it, this ratio could grow much higher. A heavily-indebted population would make it more costly for the Riksbank to raise the interest rate when the time eventually comes to normalize monetary policy. It also exacerbates imbalances and leaves little buffer for protecting the economy from an adverse economic shock.

Build it and they will come

It is puzzling as to why the construction industry has remained sclerotic during this period of rapid growth in house prices. The tightly regulated housing market may be partly to blame, however another reason could be a labor shortage in the construction industry that has created a bottleneck fort construction. The building industry is tightly controlled by collective agreements that regulate how many workers there are, what they get paid and how many hours they can work. The bottle neck is expected to get worse. Sweden’s building industry is said to require some 100,000 new workers in the coming years, however the Builders Union is reluctant to look to the newly-arrived migrants as a fresh source of labor.    

Sweden’s Builders Union is hesitant to hire a mass of un-skilled workers from the pool of migrants despite the stark shortage. Sweden, along with Norway, has the lowest share of low-skilled employment in the EU. Sweden is also one of the most egalitarian countries in European terms of wages, with high minimum wages and relatively little difference between the highest and the lowest paid on the building site. Contractors may start to sidestep collective agreements and pay workers less if more unskilled workers are employed, which could weaken the Union’s bargaining position. The Builder’s Union has also claimed giving asylum seekers access to the industry could compromise Sweden’s highly-educated workforce and the Swedish model of low inequality amongst wage earners.

Many of these fears are unfounded. Filling low-skilled positions with low-skilled workers does not compromise the existing high-skilled jobs, quite the opposite, and although unskilled-workers entering the market could put downward pressure on wages for some workers, there is much more to lose if no action is taken. If the construction industry constrains growth, we could see Sweden’s economy slowing at an alarming rate, and dragging incomes down with it.

Taking additional laborers and engineers from the pool of asylum seekers is not going to rectify the housing shortage entirely—regulations regarding issuing permits as well as rent controls also need to be reformed. However it is a good place to start. Rapid integration into the workforce is key in alleviating the anxieties that come with relocating. Sweden has proved to be one of Europe’s few growth success stories, but it is expected to slow. The panel of 25 analysts we surveyed this month projects GDP to grow 3.4% in 2016, which is 0.1 percentage points lower than last month’s forecast. In 2017, analysts see GDP growth falling to 2.5%, which is a substantial moderation. More residential construction would ease the housing gaps as well as provide a much needed boost to growth.

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