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In his thesis Alexander van de Minne takes a closer look at the Dutch housing market. The relaxation of credit conditions has led to a huge increase of house prices, but according to the researcher there was no such thing as a bubble.

Alexander van de Minne

Few financial topics attract consumer’s attention more than the development of house prices. House owners welcome an increase in prices and experience a decline in prices as a loss. A new entrant gets excited when prices fall, because it becomes easier to take the first hurdle.
House prices are not easy to predict and display significant fluctuations both in time and by region. The number of determinants that influence house prices is large and their importance differs through the years.

Alexander van de Minne investigated the drivers of house prices. He finished his PhD in December 2015 under the supervision of professor Marc Francke of UvA Economics and Business. In his thesis, which is titled “House Price Dynamic; The role of credit, demographics and depreciation”, Van de Minne analyses sets of data of the Dutch housing market from the last 200 years, especially in Amsterdam. Van de Minne is an engineer and is currently teaching at MIT in the US as PostDoctoral Research Fellow.

Credit conditions

Looking at the house prices the huge rise in prices since 1995 are especially salient. Prices more than doubled in The Netherlands, the US, the UK and France. Per year this means an average rise of 7.15%. In the period between 1900 and 1995 prices rose only 20%, or 0,23% per annum. Over this long period price movements moved fairly constant, with exception of France.

The relaxation of credit conditions is an important driver of the price increase since 1995, according to Van de Minne. These credit conditions include determinants related to the development of the credit market itself, such as derivatives and other financial innovations, more sophisticated risk management, changes in risk-perception and the introduction of new mortgage products. Van de Minne concludes that the price rise of 107% between 1995 and 2009 can be explained by the relaxation of credit conditions by 37 percentage points. Simply put, houses are more than ever financed with credit. Income and interest rates are not part of the credit conditions.

Despite the fact that this increase in house prices was unprecedented, Van der Minne says there was no such thing as a price bubble.

‘From the perspective of a researcher, there is a bubble when prices are higher than we can explain by variables such as income or interest rates. Taking this into account, there is no over- or undervaluation on the housing market’, says Van de Minne. However, it is important which variables are taken into account for explaining housing prices. “The unique thing about my research is that we have taken an indicator which measures how easy or difficult it is to get a mortgage. And as we have already seen it became far more easy to get a mortgage from 1995. Therefore, even at the peak of the housing market in 2009, there was no bubble.”

Credit conditions also played a role after 2009, when prices fell by 18%. ‘Since 2009 income continued to rise and the interest rates kept falling, but credit conditions were tightened. The decline of 18% of the house price can be explained for 11 percentage points by this tightening.

Scarcity and vintage-effects

Van de Minne examines a range of other variables that influence house prices, such as population growth, construction costs, the labour force and unemployment.
It is remarkable to consider that a rise in population only has little effect on house prices. This is explained by the fact that the construction sector reacts quickly by building many new houses. This can even result in falling prices. Only when the government imposes severe restrictions do prices rise in line with a growing population. Van de Minne found that a rise in population by 1% is accompanied by a 0.4% average rise in prices.

A contraction in the size of the population has huge consequences: when the population decreases by 1% house prices fall 1.9% on average. ‘When the demand for houses decreases, the supply of houses doesn’t react’, says Van de Minne. ‘It can take tens or hundreds of years before houses have completely deteriorated. That is why we found huge price drops in regions with a shrinking population. The only way to prevent this fall in prices is by either demolishing houses or repurposing them.

Van de Minne also researched the effects of physical deterioration on house prices. When properly maintained the negative effects of ageing are offset and prices do not fall. When a house is poorly maintained, prices will fall with 43% within a period of 50 years. Finally, Van de Minne examines the so-called vintage effect. Houses that have been built in popular years, such as the thirties, are more expensive.

Future developments

Van de Minne’s analysis of the distant past calls for a look into the future. The researcher is reluctant to make predictions, because of the large number of factors affecting house prices, but he is prepared to peek into the crystal ball.

‘When we consider the foundations, things are looking good for the Dutch housing market. Interest rates are low and income is stable. It is equally important that we are aware of impending credit measures, such as the lowering of the maximum mortgage, the loan to value. But this is already taken into account in the prices’, says Van de Minne. He therefore expects that prices will be more stable in the coming years. The increase in the number of credit providers, like insurance companies and pension funds, can have a positive effect. ‘This is not only important from a competition perspective, but also because these institutions can provide cheaper credit. The great unknown is the development of the population relative to the supply of houses. A small shortage or excess of supply can make a big difference.’