Raising interest rates will put pressure on the housing market to cool. This issue is raised by many – but it’s part of the truth. From the past we learn that not every increase causes price drops, and certainly not immediately. Much depends on the state of the economy and further interest rate hikes. However, much more significant problems may befall the other part of the market, which already seems to be in the process of burning – the rental market, and raising interest rates may fuel it much faster, than cooling the housing purchase market.
Let us return briefly to the dynamics that guide the moderating effect of raising interest rates on the housing market for sale: once interest rates rise, homebuyers can take out less of their mortgage than before, and therefore their ability to meet high price levels is impaired. Thus demand is declining, and apartment owners will not be able to continue to offer their apartments for sale at pre-interest rate hikes, and they will be forced to compromise on lower prices. So far in theory.
In reality, such a step does not occur from now to now and homeowners will not lower their prices tomorrow. They will continue to wait for those who can buy their apartments at their target price and may also hope that those who come to them will be those who wanted to buy an apartment at a higher price, but in the face of rising interest rates had to compromise and found this apartment. Therefore, it is a time-consuming process. From past experience we learn that when apartment prices go down, there are apartment owners who take their apartments off the shelf and cancel their sale.
Is the raise a strong enough starter to drive a process of market freezing?
Another question is, whether raising interest rates by half a percent, as has happened so far, is a strong enough starter for such a process. At the moment it does not look like that, but as we know we are in the middle of a process, so further increases are expected to land in the near future as well. It is very possible that at some point a large increase in a short period of time will scare potential buyers and deter them from buying apartments at this stage, especially in light of the many global and local troubles that are forming during this period, signaling two directions – inflation and recession. ).
As things stand now – we are not there yet. Rising inflation is also contributing to the rise in CPI-linked mortgages, so that the near future encodes a comprehensive rise in mortgage prices.
However, the connection between interest rate hikes and mortgage increases is significant, but not immediate. For example, between 2015 and 2017, interest rates on mortgages rose at an average rate of 50% or more (the average interest rate on indexed mortgages rose from 2% in early 2015 to 3.9% in the first quarter of 2017 and the average interest rate on unindexed mortgages jumped from 2.2% in the middle 2015 to 3.4% at the beginning of 2017), but apartment prices continued to rise; In recent months, there has been an increase, although small, of 0.3 percentage points on average in interest rates on mortgages in the two mortgage segments (about 2.3%), but apartment prices have continued to rise. Therefore, changing interest rates is a very important parameter, but not the only one on the way to determining changes in housing prices, and it is doubtful whether raising interest rates by half a percent will be enough to shock this market.
The public that rents apartments is a captive public
From here we will move directly to the market of the “replacement product” in housing, which is rented housing. When interest rates rise, fewer people can purchase apartments for the reasons outlined earlier, and so they turn to the rental market, which increases demand, and as a result also raises rents.
In addition, homeowners are leveraged, and raising interest rates charges them more monthly payments for loan repayments they have taken out to purchase the apartments they own. Their natural aspiration would be to collect these payments from the tenants, in the form of raising the rent; In an inflationary situation, index-linked rent, such as in apartments rented by companies operating in the long-term lease, will rise at relatively high rates, due to the rise in the index, although in these cases the tenants ‘situation is incomparably better than the tenants’ rent. For periods of 5 years or more, and are protected from the whims of apartment owners.
The problem is that the number of apartments rented using this method is very low (about ten thousand) and company owners who work in the field of numbers that for every apartment vacated in their projects – dozens of potential tenants turn out.
The bulk of the market usually operates on the basis of short-term agreements (annual or biennial) signed between apartment owners and tenants, and it can change at a much greater rate than the apartment sale market. In the past week, the media, including ours, published disturbing findings about significant increases in rental prices in various parts of the country, far more than what is published in the CBS data. Raising interest rates could further fuel these increases and expose tenants to unexpected difficulties.
In a large proportion of cases, tenants are a public that cannot afford to purchase an apartment where it rents it, and this makes them a captive public.
What further weakens their status is the government’s conduct regarding this market. In recent years, the government has been deliberately reducing the supply of apartments for rent, as part of a policy to exclude real estate investors from the market. The result is that, according to the chief economist at the Ministry of Finance, since 2016
The intention of the government in its policy was to eliminate investors from the housing market, in the assessment that they are the ones who have contributed the most to the price increases. This thesis has been completely refuted in recent months, in which apartment prices have risen at a record pace of more than a decade, even though investors have been reluctant to purchase apartments.
The government also wanted to encourage investors to sell their apartments to young couples, but in doing so, as mentioned, it reduced the supply of apartments for rent and the public renting the price of the government’s policy to help young couples buy apartments.
The current situation, in which apartment prices are rising rapidly, causes an increasing number of households to reject their desire to purchase apartments and instead rent an apartment. The increase in interest rates is therefore expected to ignite this process, without investors rushing to react to a situation, which is already not simple, when it comes to the Tel Aviv area.
The problem at the moment is that the government seems to be stuck in the concept of giving priority to apartment buyers at the expense of tenants, and it is hard to see it changing attitude.