Nordic housing markets hit record highs

The coronavirus crisis differs in many ways from other economic crises in modern times. Normally, a crisis is seen as a situation where countries are hit by sharply rising unemployment, a flood of bankruptcies and a collapsing housing market. But thanks to massive fiscal packages to support households and businesses alongside fast and significant easing of monetary policies, the Nordic countries seem so far to have weathered the recession relatively unscathed.

One thing especially has come as a major surprise to most observers: Housing prices have increased to record-high levels in all four countries, and there is no indication of a reversal near term.

The Swedish housing market

Swedish housing prices rose to new all-time highs in 2020. Already in July, housing prices had recovered the ground lost during the spring. In December, they were up 11.5% compared to a year ago.  On average home prices were 7.5% higher in 2020 than in 2019. Towards the end of the year, even prices of flats in Stockholm set new all-time highs for the first time since 2017. The housing market pick-up has been broadly based, with a record-high number of transactions in 2020.

One reason is that households were optimistic about housing prices and their own economic situation. Moreover, people spent more time at home and saved money as the restrictions prevented them from following their usual consumption patterns. This increased demand for larger homes, and single-family house prices surged. Older people might have cancelled plans to move to smaller flats closer to city centres, dampening supply of single-family houses. The labour market has also held up better than initially feared.

Construction activity to normalise

The hot housing market is also reflected in construction activity, which remained relatively brisk during the turbulent year of 2020. However, construction companies signal that the uptrend in construction is slowing down in tandem with the declining population growth.

We estimate the number of housing starts to have fallen to around 50,000 in 2020 and expect the number to decline further in 2021 and 2022 to 40,000 each year. Housing supply is in line with the level of population growth and relatively high in a historical context, but lower than the levels seen before housing prices dropped in 2017.

Prices of single-family houses have increased more than prices of tenant-owned flats over the past years, but this trend mainly reflects that prices of houses declined less than prices of flats during the downturn in 2017. However, in 2020 prices of single-family houses jumped by a wide margin. In December, prices of single-family houses in Stockholm were up some 17% compared with the year-earlier level.

Low rates and continued monetary policy stimulus from the Riksbank

The housing market is furthermore supported by the prospect of low interest rates and low fixed mortgages rates. In November, the interest rate on new home loans with a 1-5-year fixing period averaged 1.29%, which is an all-time low. This is also reflected in households’ long-term interest rate expectations, which declined in 2020.

Although longer-term rates have risen in the US lately, rate hikes from the central banks in Sweden and most other European countries are a very long way off. Rates will likely not decline much more, but the prospect of low interest rates for a long time will still support the housing market going forward.

In addition, the Riksbank expanded its asset purchase programme to include mortgage bonds in 2020. These purchases have contributed to driving down interest rates on home loans and will remain in place at least throughout 2021. The Riksbank has had some success with its policy as lending to households has not been affected by the economic crisis. Household debt grows by about SEK 20bn per month.

General interest-only option to cease

At the beginning of 2021 the housing market will likely be further supported by the scrapping of interest on deferred gains for up to SEK 3m, which will enable borrowers to put in more own capital and thus get below the levels set in the amortisation requirements.

Moreover, the Swedish Financial Supervisory Authority introduced a general exception from the current amortisation rules during the spring of 2020.¹ Previously, borrowers could apply for an interest-only period if for example they became unemployed, but during the coronavirus crisis it has been possible to apply without having to state a specific reason. The general exception will expire on 31 August 2021. However, it is worth mentioning that borrowers still had to apply for an interest-only period in 2020-21. Therefore, we do not expect any major price effect when the general exception expires.

Prospects and forecast

We expect housing prices to rise in 2021, albeit at a slower pace than during the autumn of 2020. Key factors behind this forecast are that interest rates will not go much lower and that housing prices are already at very high levels in Sweden. As more people get vaccinated, consumption will also start to normalise, leaving less surplus capital for the housing market. Demand for single-family homes will likely remain elevated throughout 2021, but should also start to normalise over the coming years.

We assume that housing prices on average will be 9% higher in 2021 than in 2020. Much of this pick-up is, however, attributable to the very rapid increase in prices during the autumn of 2020. According to our forecast, the pick-up in housing prices in December 2021 will be around 4.5% compared with the year-earlier period.

Short term, the rising housing prices support the economic recovery. Households do not need any “kickstart”; rather the risk is that further stimulus packages for households could add fuel to an already hot housing market. However, the difference between those who are in the housing market and those who are not widens every month. Therefore, the benefit of sustained mortgage bond purchases should be carefully considered.

Over time, the high housing prices will pose an increasing risk to the economy. The current level of housing prices is first and foremost a result of the low interest rate level and current regulations. However, even minor changes to any of these factors could have a relatively substantial impact on prices, which in turn could send negative ripple effects through other parts of the economy. Consequently, it is important that policymakers tread carefully when deciding on changes to these factors.

(1) According to the current rules, borrowers must amortise 1% of the loan for loans with an LTV (loan-to-value) of 50-70% and 2% of the loan for loans with an LTV of 70-85% as well as an additional 1% if the loan amount exceeds 450% of the household’s disposable income.

The Norwegian housing market

Despite the coronavirus pandemic, 2020 was a good year for the Norwegian housing market. Nationwide, prices were up almost 9% in December 2020 compared with prices a year earlier, see chart E. This was the highest price growth since 2016. We believe that housing market sentiment will remain buoyant in 2021, but the pace of growth will gradually slow and hence housing prices could begin to flatten towards the end of the year.

Are Norwegian housing prices too high?

Housing prices have risen significantly over an extended period. Since the beginning of 2000, nationwide housing prices have increased by 240%, see chart F. Even deflated with income, the growth in housing prices is still quite substantial. For a median family, the cost of an average home is nearly five times disposable income today, compared with three times disposable income almost 20 years ago. Several traditional measures indicate that housing prices are high.

The developments in housing prices should, however, be seen in light of both income and interest rate trends. Since 2000 the median disposable income of households has more than doubled, and the general interest rate level on housing loans has dropped from 7% to less than 2%. Hence, the development in housing prices can largely be explained by the trends in these two underlying factors, see chart G. In our analysis, the share of income that a median family spends on servicing its mortgage is kept constant at the average level since 2000. The grey line in the chart shows how much a family can afford to pay for an average home over time, given the trends in income and interest rates. The red line shows the actual price of an average home. As a percentage of income, it costs roughly just as much to pay interest and principal when buying a home today as it did in 2014 and in 2000. At the same time the share of income spent on necessities has declined sharply over time due to real income growth.

In the chart, the modelled price development is decomposed into an income effect and an interest rate effect. The bottom area shows the price level in 2000. Since 2000 nearly 50% of the rise in housing prices can be ascribed to income growth, while the remaining part is attributable to lower interest rates.

No euphoria; the key driver is the historically low interest rates

The strong price growth in 2020 is not due to euphoria but rather because housing prices have been adapting to the historically low interest rate level. All else equal, Norges Bank’s rate cuts of 1½ percentage points have contributed to boosting households’ purchasing power in the housing market by 15-20%. The record-low interest rates have thus led to strong growth in housing prices despite the coronavirus pandemic and higher unemployment.

Our simple model based on interest rates and household disposable income does not point to a housing bubble. Housing prices in Norway seem well anchored in underlying fundamentals. But households’ high indebtedness make them vulnerable to any major correction in income and interest rate levels. However, the probability that interest rates will rise sharply and take the housing market massively down is small, given Norges Bank’s response function. Norway has good welfare schemes in place that will curb income fluctuations in the event of an economic setback, and the government has ample room for manoeuvre in fiscal policy. Moreover, the banks are well-capitalised and favourably positioned to handle any turmoil.

Norway’s housing market will remain strong

We think housing market sentiment will remain buoyant in 2021. Firstly, the full effect of the interest rate cuts has likely not been taken out yet. Secondly, the vaccination campaign will lead to a normalisation of the economy and a decline in unemployment towards more normal levels during 2021. This will also provide support to the housing market. Still, we think that the pace of growth in the housing market will eventually gradually slow down, partly because the effect of the rate cuts will eventually be taken into account in housing prices. But also because Norges Bank will probably increase the key rate before the end of 2021. Moreover, the central bank has signalled additional rate hikes next year. This will contribute to slow price growth in the housing market. And we expect housing market prices to start to flatten towards the end of the year. Longer out, Norges Bank’s continued rate hikes could send housing prices a bit lower – when viewed in isolation. At the same time it seems reasonable to assume that wage growth and in turn income growth will rise as unemployment declines. In the medium term, these two forces should largely offset each other and contribute to keeping housing prices fairly stable. Longer term, when interest rates approach normal levels, housing prices will follow the trend in household income.

In March and April the housing market was affected by high uncertainty about the future, and new home sales declined markedly. Property developers were quick to respond by postponing new projects. This hit the construction sector hard, which is the second-largest sector measured in terms of employment in Norway. The housing market situation has improved since April, though. As prices have risen sharply, home buyers have returned to the market, and demand for new homes has seen a solid increase. As a result, the outlook for the construction sector is much brighter. Against this backdrop, we expect new housing starts and residential investments to increase going forward.

The Danish housing market

One of the biggest surprises during the coronavirus crisis has been the performance of the Danish housing market. When the crisis hit in earnest in March 2020, the toxic combination of a sharp drop in employment, markedly higher financing costs and considerable uncertainty briefly caused market prices of especially owner-occupied flats to nosedive.

However, the housing market quickly regained its footing and since then the only way has been up, with accelerating selling prices and a significantly higher number of housing sales than in previous years. As a result, housing supply approached an all-time low towards the end of 2020. At the same time, low financing costs and strong demand have helped keep the number of forced sales at a very low level during the crisis.

Long period of progress

The price increases during the coronavirus crisis followed in the wake of a long period of housing market progress. Real prices of owner-occupied flats have increased by more than 60% since bottoming eight years ago, while prices of single-family houses have gone up by about half that percentage during the same period. The relatively sharp price rises are mainly due to stronger demand driven by historically low financing costs and robust growth in households’ disposable incomes. This acceleration in demand has been further boosted by a psychological effect where expected future price increases have been factored into current prices.

During the coronavirus crisis these effects have become more pronounced, which through a sharp increase in demand has sharply reduced the number of homes on the market, thereby paving the way for price acceleration.

More robust housing market

Although housing prices have increased, the annual price rises are still significantly lower than in the period from 2004 to 2006. A significant difference between now and then is the tightening of regulations during the current upturn as opposed to the easing of regulations back then.  To avoid a repeat of this costly experience, the authorities have implemented a range of macroprudential measures relatively early in this upturn to prevent a housing bubble. The measures include a higher required down payment by homebuyers and tougher credit standards for home loans in the Copenhagen area and Aarhus. Moreover, restrictions have been implemented on the availability of loans to homeowners with a high debt burden relative to the value of their home and their household income. Lastly, a proposal to lift the freeze on property tax rates has been passed, although the actual lifting of the freeze has been postponed several times due to technical challenges in connection with the construction of a model for property assessment.

These tightening measures have reduced the percentage of homeowners with the most risky loan types. As a result, a majority of homeowners’ mortgage loans are now again fixed-rate loans while the proportion of interest-only mortgage loans has declined. In continuation of this, households’ debt as a percentage of their disposable income has declined – despite the rise in housing prices. Hence, the debt ratio has been reduced by nearly 60% points from the peak in 2009. So Danish homeowners are now much better positioned to withstand sudden shocks than they were prior to the financial crisis.

Historically low financing costs are probably the most important factor behind recent years’ accelerating prices in the Danish housing market. Over the past five years alone, the effective rate of interest on a 30-year fixed-rate mortgage loan has dropped by around 2% points. As a rough rule of thumb, a permanent interest rate decline of 1% point will trigger an increase of 5-10% in cash prices over the medium term. So, although a small portion of recent years’ rate declines has been offset via higher administration and reserve fees charged by mortgage lenders, it does not change the very strong correlation between falling interest rates and rising housing prices.

A comparison of the trend in prices of single-family houses with the trend in households’ disposable incomes shows a similar correlation, see chart K. It shows that declining interest expenses and rising employment have contributed to lifting households’ disposable incomes at a pace quite similar to that of the average price increases in the housing market. This indicates that the current price levels do not deviate markedly from what can be explained by the general trend in incomes.

Prospect of a soft landing

The current very low financing costs naturally increase the risk of a price correction when interest rates at some point start moving higher. Our baseline scenario assumes that particularly long-term mortgage rates will increase slightly towards end-2022. Consequently, in the coming years the combination of higher interest rates and tighter regulations will likely curb price rises mainly in the largest cities. This is where borrowers are most sensitive to interest rate changes and where the macroprudential measures hit the hardest.

However, before we see this effect show through in earnest, the current very low housing supply will likely lead to relatively sharp price increases over the coming quarters. Hence, we expect prices of single-family houses to rise by 5.7% in 2021 after a pick-up of 4.2% in 2020. In 2022, nominal housing prices, calculated as a national average, are expected to rise broadly in line with gross disposable incomes. This means that the rising interest rates will dampen the pick-up in prices and lead to a soft landing for the Danish housing market, with average annual price rises in 2022 of some 3%.

The Finnish housing market

Strong year for the housing market

It seems that the impact of the coronavirus crisis on the Finnish housing market was short-lived. The pandemic put much of the housing market activity on pause for a few months last spring, but we saw a quick rebound over the summer. Ultimately, the number of housing transactions completed in 2020 matched that of the previous year.

While housing prices typically fall in a recession, this wasn’t the case in Finland despite the challenging employment conditions. On the contrary, housing prices in the Greater Helsinki area were 6% higher in November compared to the year before, and the prolonged decline elsewhere in Finland also stopped.

The housing market has been propped up by various factors. The quick job recovery after the temporary lay-offs in the spring together with the payment holidays granted by banks have softened the impact of unemployment on the housing market. In addition, the pandemic’s disruption to the jobs market hit the under-25s working in the service sector the hardest, and they are typically not yet looking to buy homes.

The low interest rates and the next upturn in rates moving even further into the future have made it easier for people to manage their home loans. With the Finnish Financial Supervisory Authority’s decision to raise the cap on home loans, the affordability of homes has also improved.

People’s home-buying criteria have also changed, as they have started to spend more time at home and work from home due to the coronavirus crisis. Moreover, some of the money that would have normally gone into consumption has been channelled into the housing market.

Economic growth is forecast to rebound strongly this year on the back of the coronavirus vaccines, which will also boost employment. The pick-up in economic activity together with low interest rates will also support the housing market, and we expect the housing prices to continue to rise this year, too.

Interest rates and migration drive the housing market

The Finnish housing market saw a big regional divide in the 2010s. Housing prices in growing cities continued to rise, whereas the prices in depopulated areas were stagnating or falling.

Population is constantly growing in the regions of Uusimaa, Southwest Finland, Pirkanmaa and North Ostrobothnia but dwindling elsewhere in the country. These trends have been reflected in the divide between the housing prices in the growing cities and the rest of Finland. According to the population forecast of Statistics Finland, urbanisation is expected to continue in the 2020s, causing the population to shrink in most Finnish municipalities. This means that the housing price divide is expected to widen going forward, too.

Until recent years, house-building in the Greater Helsinki area was outpaced by population growth. The number of new homes built between 2005 and 2017 lagged far behind the growing number of people living in the area. This chronic shortage of new housing supply has pushed the prices higher. In many depopulated areas homes are hard to sell, as supply exceeds demand.

Low interest rates in the 2010s enabled people to get a larger home loan for the same income and thus supported the price trend in the growing cities. But housing supply reacts slowly to growing demand, which has accelerated the rise in housing prices. The decline in interest rates is reflected in rising prices especially in more expensive areas where the capital costs are high in relation to other living costs, such as the charge for common expenses. The fastest rise has been seen in the city centre of Helsinki where the prices per square metre were the highest in the country to begin with.

Migration to the Greater Helsinki area has been slowed down by the coronavirus temporarily, which has resulted in slower rent growth. Last year, rents increased by 1.0% across the country and by 1.3% in the Greater Helsinki area.

Redistribution of housing wealth

The prices of small homes in particular have gone up in recent years. Growing demand for small homes has been driven by a higher proportion of one-person households (45% in 2019 vs. 28% in 1985) and the reform of students’ housing allowance. At the same time, the supply of small homes is curbed by the urban planning restrictions related to the average size of new homes.

The rapid rise in the prices of small homes, along with the home loan cap and the trend towards short-term employment contracts, has made it harder for young people to buy a home of their own. The number of first-time home buyers has decreased considerably over the past 10–15 years, and their average age is now nearly 30. As a result, more than half of the one-room flats sold in 2019 were bought by investors.

Homes are the greatest financial assets held by Finns. While paying off a home loan is a great way to save money and grow wealth, young people have more obstacles on their path to home ownership than before. This means that there will be a risk of growing wealth inequality in future, too, with the concentration of housing wealth in fewer hands.

For the above reasons, the loan cap for first-time home buyers should not be used as a macroprudential instrument. The terms and conditions of ASP loans designed for first-time buyers should also be revised and aligned with the current housing prices. Moreover, cities should ensure sufficient and flexible urban planning that allows homes responding to the needs of the migration flows to be built.

Looking ahead

Contrary to expectations, housing prices have increased to record-high levels in all the Nordic countries during the coronavirus crisis. This is not least because the authorities in all four countries have supported households and businesses via unprecedented expansionary monetary and fiscal policies and temporary easing of housing market regulations.

Moreover, people have been forced to stay at home, which has prevented them from spending huge amounts on, for instance, holidays abroad or other events hit by restrictions.  So households have instead spent more money on upgrading their homes.  During the crisis people’s mobility has also been severely restricted. That has caused a sharp decline in the number of homes on the market and in turn contributed to driving prices much higher.

We expect housing prices in all four countries to continue to rise both this year and next year.  However, interest rates are not likely to go much lower, and at some point the expansionary fiscal policies will come to an end. Moreover, as mobility levels increase, housing supply will rise again. Against this backdrop, the pace of price growth will slow. As long as the housing market remains in good shape, the economy will too. And there is no doubt that the benign trend in housing prices helps all the Nordic countries to get through the crisis.

This article first appeared in the Nordea Economic Outlook: The Growth Booster, published on 27 January 2021. Sign up to receive the next Nordea Economic Outlook directly in your inbox as soon as it’s released.

Authors from Nordea Research:

Dane Cekov, Analyst
Juho Kostiainen, Senior Analyst
Susanne Spector, Senior Analyst
Jan Størup Nielsen, Chief Analyst
Helge J. Pedersen, Group Chief Economist