The Spanish construction industry grew on average by 5 percent between 1996 and 2007 during which the amount of stock increased by approximately 30 percent (5.7 million units).
As a result of its entrance into the Euro Zone, housing finance interest rates fell from 11 percent in 1995 to 3.5 percent between 2003 and 2005. As a natural consequence, domestic demand and overseas purchasing activity noticeably increased – the latter identified by holiday home acquisition fueled by intensive ‘place in the sun’ styled marketing campaigns.
Spain, as with several other European destinations, was touted as a ‘solid investment opportunity’ on the back of an over-simplified justification of growth. Consequently, between 1997 and 2007 The Economist estimated that property prices grew by 191 percent (in 2003, the magazine also estimated the market as being over-valued by 52 percent and the IMF estimated the figure at between 20 and 30 percent).
In this regard, arguments that Brazil is following the same pattern are not very well supported. Despite what has been a large growth in the internal housing credit market, foreign interests specifically in real estate have been relatively low – bar the glut of predominantly European and American interests in the north east (principally Natal, Rio Grande do Norte) which have relatively subdued, particularly over the last couple of years.
Furthermore, with the overseas investment interest sector in Brazil being a relatively small group, news of money being lost in real estate scams in what remains a complicated country to do business in, has spread fast and subsequently created an air of skepticism.
When the crash hit Spain, the levels of repossessions soared producing gigantic debt burdens and surplus stock that the banks simply could not handle. In May of this year, several prominent banks were downgraded to ‘junk’ status by the credit ratings agencies and the largest mortgage lender – Bankia – (nationalised on 9th May) said its bail out requirement was 23.5 billion Euros (in order to cover the losses made from mortgage financing).
Brazil, on the other hand, learnt a number of important lessons from its own crises over the previous decades which have served to fortify many aspects of its banking system, particularly in relation to the granting of so-called toxic loan mechanisms. Today, in addition to the fact that the Brazilian mortgage market is very lowly leveraged – as recently indicated by a report produced by the IMF – the country´s financial system was able to confront the effects of the global economic crisis effectively. The report further stated that concerns are mitigated by the fact that the level of credit is still low relative to GDP.
The recent history of the country´s major development firms such as Gafisa and MRV is also a major factor the banks are worried about (the latter has recently taken another blow as a result of suspension of construction finance from the Caixa Econômica Federal). Additionally, many of the smaller developers have been seen renegotiating debts in an attempt to avoid bankruptcy.
There are also a number of important similarities that should be considered. For instance, both markets lack a clear grasp of real home values often artificially determined by brokers, agencies and property portals as well as via government registry offices and housing ministries. Such measurements are notoriously unreliable, open to abuse and questionably interpretable.
Then there is the denial factor. Since 2002, the Bank of Spain was alerting towards the over valuation of property prices although maintained that the market had long been moving towards a “gradual and progressive market absorption” and in 2004, the Spanish ministry of economics declared that: “the truth is that we are sitting on a long cyclical duration with very few issues – this is without a doubt.”
The reasons for not wanting to diminish the effects of a property bubble are similar in both Spain and Brazil and include the fact that, due to construction costs being subject to the same pressures as the sales market, developers have been naturally forced to move their prices upward. The ‘feel good’ factor of growing real estate prices often creates a false image of prosperity and subsequently led to many people earning a lot of money whilst falsely ‘talking the market up’.
Corruption is a well-known practice in both countries such as in the form of plans being authorised for political interests to be able to benefit from profits despite being based on weak business models.
Despite the negative press over the Brazilian real estate market over the last couple of years, there is very little doubt of the huge opportunity in the medium to long term. The main challenge is overcoming the self-created stumbling blocks related to execution of successful housing policy whilst truly focusing on what actually needs to be done. Obviously financial bottom lines are important but, if there is one important lesson that the country can learn from Spain, ignorance of fundamental (income based) real estate economics is only likely to spell disaster ahead.
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