The Latvian EconomyMonthly newsletter from Swedbank’s Economic Research Departmentby Dainis Stikuts No. 5 • 29 June 2011Real estate market: slow and uneven development • The construction sector was still declining in annual terms in the first quarter of 2011. However, it is expected to start recovering slowly, in line with rising economic activity. Future demand will depend on the entrance of long-term investors, availability of financing, export growth, and increase in purchasing power of the population, as well as regional policy. • Residential real estate has experienced a dramatic fall, and its recovery will be slow – the heavy credit burden, low incomes, and slow job creation are weighing heavily on demand growth. Existing stock of already built, but still unsold, real estate will continue to undermine new residential construction. At the same time, there is good potential for supply growth of premium-class dwelling in Riga and Jurmala, as demand in this segment seems to exceed supply. • Construction of commercial real estate will mainly be driven by exporting sectors, especially production buildings and warehouses. Demand for office, as well as for wholesale and retail trade, buildings is still weak and most likely will remain so in the coming years.The construction sector constituted 4.5% of GDP in advanced EU countries resulted in exaggerated2010 (down from 7-7.5% in 2006-2008). optimism about future incomes and easily availableConstruction is a good indicator of economic credit. Excessive optimism led to a real estatedevelopment, especially investment activity. bubble. Prices grew to inflated levels – in the peakConstruction of commercial and infrastructure of May 2007, 4.5 monthly average net wages wereobjects has a larger influence on economic potential necessary to buy 1 square meter of a standardthan residential real estate construction, as the blockhouse apartment in Riga. After the recessionformer increases production capacity. Amongst the corrected real estate prices and improved housingsectors of the economy, construction suffered most affordability, apartment prices in Riga declined byduring the recession in 2008-2009 – by the first about 70%, returning to the 2005 level. Housingquarter of 2011, value added had fallen by 61% affordability has improved to 1.3 monthly averagefrom the peak in the second quarter of 2008, and net wages per 1 square meter, but demand remainsemployment had decreased by 80,000 persons limited.(which is almost half of those employed in thesector in late 2007-early 2008). Real estate prices bottomed out in autumn 2009; there were several reasons behind this. TheAlthough construction was still declining in the first general economic situation started to improvequarter of this year, the number of building permits slowly – global uncertainty decreased, consumerstarted to rise in some segments. Future growth of confidence and unemployment expectations indemand will depend on several factors – the Latvia stabilised, and the recession ended in theentrance of long-term investors, availability of fourth quarter of 2009. Those inhabitants andfinancing, export growth, and the business companies who had liquid assets exploited theenvironment (including improvement of legislature), opportunity to buy property for low prices, thusas well as rise in incomes and purchasing power, contributing to the rebound in prices. As a result,i.e., employment and wage growth. real estate prices started to recover quite rapidly (growing by more than 2% in some months). BanksResidential real estate market – slow and also began to get involved more actively, e.g., byregionally uneven growth creating separate entities (daughter companies) dealing with real estate, which also added to priceFollowing EU accession, the decreased risk stabilisation. Apartment prices in Riga increased byassessment and income convergence with 17% in a year’s time. However, activity in the Economic Research Department. Swedbank AB. SE-105 34 Stockholm. Phone +46 8 5859 1000. E-mail: email@example.com www.swedbank.com Legally responsible publisher: Cecilia Hermansson, +46 8 5859 7720. Mārtiņš Kazāks, +371 6744 5859. Lija Strašuna, +371 6744 5875. Dainis Stikuts, +371 6744 5844.
The Latvian Economy Monthly newsletter from Swedbank’s Economic Research Department, continued No. 5 • 29 June 2011market remains very low and demand is weak; most Household loans, LVL mtransactions occur in cash (mortgages are issuedonly in 20% of cases). Consequently, real estate 7000 200prices have remained by and large flat since July 60002010. 160 5000Residential real estate market in Riga 4000 120 2000 6 3000 80 5 2000 1500 40 4 1000 1000 3 0 0 Jan.05 Jan.07 Jan.09 Jan.11 2 500 Mortgages Other Total, % of wage bill (rs) 1 Source: BoL, CSBL 0 0 2003 2005 2007 2009 2011 Regional aspects are also important when one is Nr. of transactions assessing demand for dwellings – not only Source: CSBL, domestic and external migration, but also Average price, EUR/m2 Land register decreasing population due to low fertility rates. 2 Affordability, net wage per 1 m2 (rs) Swedbank With population falling, housing supply per inhabitant will grow as long as the existing housingDemand for real estate is weak, as overall incomes stock is maintained. The biggest opportunities areremain low. In the first quarter of 2011, just 16% of for Riga and its surroundings. Riga centre andhouseholds had mortgages, constituting about 80% Jurmala are interesting for foreign investors, whileof all household loans. However, the range of Riga’s suburbs have attracted inhabitants from Rigapotential clients is relatively limited – only 28% of and other Latvian regions. Riga is a regional centreemployed earn more than LVL 500 (EUR 711) per of economic activity – it is attractive for inhabitantsmonth, and only 6% more than LVL 1,000 (EUR in other Latvian regions both in terms of higher1,423). 1 In addition, a relatively large share of these incomes (the average net wage is about one-thirdwealthier inhabitants has already obtained higher than in other regions) and lowerdwellings, either paying cash or taking mortgages. unemployment (in May 2011, the registeredThose who already took mortgages most likely will unemployment rate was 9.3% in Riga vs. 13.2% innot be able to undertake new loans due to the the country overall).already heavy debt burden – household credit stockaccounted for 164% of the annual wage bill in early Change in population, 2000-20102011. Consumers’ willingness to take loans is Rīgaundermined by caution, following the recession. PierīgaConsequently, while employment growth is slow Vidzemeand the rise in real wages nearly “eaten up” by Kurzemeinflation, domestic demand for new dwellings will be Zemgale Latgaleweak. Daugavpils Jelgava Jēkabpils Jūrmala Liepāja Rēzekne Valmiera Ventspils -60 -40 -20 0 20 40 -15 0 15 thousands percent Source: CSBL1 These are official data – most likely the number of inhabitants 2with such incomes is higher (due to tax evasion, as in many For more details, see the Swedbank monthly newsletter,cases a part of incomes is paid in “envelopes”). However, as “Demographics – can one see a forest behind the trees?”mortgages are issued to those with official incomes, credit http://www.swedbank.lv/eng/docs/materiali.php?nmid=0&naidavailability is still constrained for the others. =6 2 (4)
The Latvian Economy Monthly newsletter from Swedbank’s Economic Research Department, continued No. 5 • 29 June 2011However, increasing demand will not imply Number of building permitsimmediate construction growth. Since 2009, newhousing construction growth has been minute, 200about five times smaller than in 2008. The number 160of issued building permits stabilised last year, butthis is not likely to result in rapid construction 120growth. Existing housing stock (built in boom years)is still large. It is expected that approximately five 80years will be needed to sell out this stock. Thesituation is not so straightforward, though – demand 40for housing depends on location and quality. For 0instance, the supply of premium-class housing inRiga and Jurmala is still limited, and prices are 1Q03 1Q05 1Q07 1Q09 1Q1sufficiently high to make new construction Production buildings and warehousesprofitable. Therefore, there is potential for new Wholesale and retail build. (incl. petrol stations)supply in this segment. Offices Source:CSBLExisting housing stock and new construction, 2011- The outlook for office construction remains2016 favourable – A-(prime) and B-class office space per 7000 inhabitant in Riga is twice as small as in Tallinn and three times as small as in Warsaw. The supply of 6000 prime-class offices remains inadequate. However, 5000 occupancy rates in Riga are still low (72% in 2010, 4000 down from about 90% in 2005-2008); this is the 3000 main reason why demand for new office construction will remain weak in the near future. 2000 Still, owing to the growing economy, demand for 1000 new and better-quality office spaces will rise 0 gradually. 2011 2012 2013 2014 2015 2016 Sold housing Source: Prime office rent and space (vacancy level), and GDP Swedbank growth, % New construction Existing stock, beginning of the year forecasts 30 20 20Commercial property – stronger growth in 15export-related sectors 10 10The commercial property market is very fragmented 0– one can distinguish among production building, 5office, and trade building segments. Commercial -10property construction also declined in 2008-2009,together with economic activity. With the recovery -20 0of exports, demand for production capacities and, 2004 2005 2006 2007 2008 2009 2010thus, investments is increasing. The number of Real GDP growthissued building permits for production buildings and Vacancy level in Riga Source: C SBL,warehouses increased by 167% in annual terms in Riga prime rent, €/m2 (rs) Swedbankthe first quarter of 2011, reflecting the rise indemand, especially in exporting sectors. Riga and Demand for construction of trade buildings is alsosurroundings (where approximately two-thirds of the likely to remain weak. Before the crash, the spacecountry’s total value added is produced), as well as of shopping centres increased rapidly, and its ratiothe other large cities with more concentrated per inhabitant reached or even exceeded levels ofresources and developed infrastructure, are places other Central and Eastern European (CEE)in which one would naturally expect stronger countries. Consequently, vacant trade space is stilldemand for construction. sufficient for those retailers and wholesalers who entered the market in 2009-2010. 3 (4)
The Latvian Economy Monthly newsletter from Swedbank’s Economic Research Department, continued No. 5 • 29 June 2011Space of shopping centres in CEE capital cities, 2Q A new player can enter the market in two ways –2010 either by buying an existing property (implying a redistribution in the market, but without much 1076 influence on new construction), or by starting with a 1 200 914 completely new concept and building, e.g., outlet- 824 840 1 000 790 type shopping centres outside the city. Taking into 680 account the high concentration of the retailers’ 800 550 market and increased profit margins, there is an 600 450 opportunity for a new player to enter the market. 300 However, the low purchasing power of the 400 population is still a challenge. 170 150 200 0 PL CZ HU RO LV LT EE HR SL BG SR Thousand sq.m. Sq.m. per 1000 inhabitants Source: CB Richard Elis Dainis StikutsSwedbankEconomic Research DepartmentSwedbank AB. SE-105 34 Stockholm. Swedbank’s monthly newsletter is published as a service to our customers. We believe that we have used reliable sources and methods in the preparation of the analyses reported inLegally responsible publisher this publication. However, we cannot guarantee the accuracy or completeness of the reportCecilia Hermansson, +46 8 5859 7720 and cannot be held responsible for any error or omission in the underlying material or its use. Readers are encouraged to base any (investment) decisions on other material as well. Neither Swedbank nor its employees may be held responsible for losses or damages,Martiņš Kazāks, +371 6744 5859 direct or indirect, owing to any errors or omissions in Swedbank’s monthly newsletter.Dainis Stikuts, +371 6744 5844Lija Strašuna, +371 6744 5875 4 (4)