The financial crisis caused serious problems all around the world. The term the US crisis is heard in media as much as the term Europe debt crisis. Economists have predicted several scenarios of the EU’s future, including the Eurozone collapse or Germany becoming a great power. Five Eurozone economies, often collectively referred to as PIIGS (Portugal, Italy, Ireland, Greece, and Spain) are the most threatened, and if they don’t manage to solve their debt crises, the worst scenarios can become true.
In this part of our PIIGS series we will take a look at Portugal’s economy and real estate market. It is predicted that Portugal won’t recover until 2012 due to its high deficit and several ineffective and unpopular measures. What is the main reason for such a great deficit, and how does it affect its housing market?
Portugal has been a member of the European Union since 1986. The membership contributed to great living conditions and stable economic growth that lasted until the financial crisis occurred. However, in the beginning of 2010, Portugal’s recovery, with 1.3 per cent GDP growth, was one of the fastest in the EU. The main driver was the housing market, boosted by low interest rates and increased government spending. The spending and debt crisis that exploded in Greece has caused serious problems for the Portuguese national economy revealed in January 2011. Mismanaged European structural and cohesion funds and a huge number of redundant public servants also contributed to Portugal’s debt crisis.
The country’s budget deficit was almost 9.4 per cent of its GDP in 2009, the fifth highest in the EU. The government’s debt rose sharply from 68.9 per cent of the GDP in 2008 to 78.7 per cent in 2009, and to 88 per cent last year. In April 2011, Portugal confirmed that it will be given a financial bailout from the International Monetary Fund and the European Union of 78 billion Euros. Portugal’s rating by S&P is now BBB- after three downgrades (in 2009 S&P downgraded Portugal for the first time from AA- to A+).
Rent Control, Bad Choice
From the mid-1990s to 2006, Europe and the whole developed world enjoyed a house price boom, but Portugal’s price growth was incomparably weaker. One reason was a stingy economy that grew by only 1.1 per cent on average from 2004 to 2008. Another reason was rent control. In 2006, it cost around 500 Euros to rent an apartment with one bedroom and a living room in Lisbon, and about 90,000 Euros to buy the same house.
“This system of controlled rents is a major problem for the Portuguese economy, but we will probably be waiting for a generational change to have room for institutional reform,” said Cristina Casalinho, chief economist of Banco BPI, a Portuguese bank, in 2010.
Rent control led to a shortage of rental housing and forced many households to move to the suburbs (Amadora, Odivelas, et cetera) or the countryside. The Portuguese preferred owning to expensive renting, so they took out mortgages, raising the country’s mortgage debt. Portugal had the lowest of Europe’s savings rates in 2007-2008.
Rui Moreira, president of the Porto Commercial Association, said: “We used to be among the biggest savers in Europe until the 1970s and the revolution, but then people here started borrowing, not so much because they wanted to travel or have a fancy car but because they had to buy a home instead of being able to pay rent.”
Moreover, Portugal’s historic city centres are filled with abandoned, crumbling houses that are either subject to a court dispute or have rental income that cannot cover their repair and maintenance costs.
Stagnation, Social Tensions, and Finally: Bailout
In 2010, interest rates fell to historic lows. All of Portugal’s regions have experienced house price falls since 2007, but mortgage growth remains slow. In 2010, the Portuguese protested against a freeze on public sector wages. They caused transportation chaos and forced a temporary closing of schools and hospitals. The construction market is in financial trouble as well. Permits for construction of new dwellings reached an all-time record of 27,012 units in 2009.
High income inequality, weak economic performance, and government measures reducing the deficit caused social tensions. In March 2011, the Portuguese organized via Facebook a massive non-political protest, gathering over 280 thousand people all across the country, making a stand against the government’s new pack of measures. A month later, Portugal’s government began talks with international officials about the terms of its bailout. In return for financial help amounting to 78 billion Euros, Portugal has to reduce its budget deficit from 9.1 per cent of its GDP to 5.9 per cent this year. And Portugal is doing quite well: during the the first Ecofin press conference in September 2011, Jean-Claude Juncker, president of the Eurogroup, congratulated Portugal on the progress it has made to rebuild its economy.
Real Estate Market Still in Trouble
Weakening demand is depressing the residential property market in Portugal, but prices are falling more slowly, according to the July report by the Royal Institution of Chartered Surveyors.
“With the Portuguese unemployment rate at 12.4%, it is unsurprising that house prices and activity is falling, while confidence remains very depressed. Interestingly, the main factor weighing down on prices is falling demand, rising supply is not an issue,: said RICS senior economist, Josh Miller.
Postponed public infrastructure projects as a part of government measures and a decline in home sales have caused significant problems to the construction sector. In July 2011, leading firms called on the government for help. In a recent statement, the Portuguese Federation of Construction and Public Works Industry said: “The sector is going through a deep crisis, with significant drops in production and the number of firms and jobs it sustains.”
Last month, RICS released a report showing that the residential property market slightly improved but residential agents still continue to experience much sharper price falls than developers, and the demand is still weak. One promising consideration is that Portugal doesn’t have to fear oversupply like Spain or the US. “Therefore, once the economy starts to recover, Portugal will not have to cope with the residential inventory issue that other countries face,” said Miller. The difficult part will be finding the beginning of the economic recovery.
*Note: PIIGS is an acronym referring to the five Eurozone nations characterized by a weaker economy: Portugal, Italy, Ireland, Greece and Spain. Despite many critics considering it offensive, it is widely used in the press by analysts, commentators, and traders. As we are going to bring information about their real estate markets over the next several weeks, we will use the term PIIGS as well, but with no intention of insulting anybody.