Spanish house prices are still 55% above their fair value despite Spain’s property market crash, claimed a recent article in The Economist magazine that caused a stir in the Spanish press. But what nobody seemed to notice is that The Economist have got it wrong, for which we can blame the Spanish Government and it’s dodgy data.
The Economist publishes a periodic round-up of global house prices based on official housing market statistics for a selection of countries, Spain included. The latest round-up finds there has been a rebound in prices in many countries, but not in Spain. “At least house prices are still falling in the Euros area’s overvalued markets, such as France, Spain, and Ireland,” says The Economist.
How does The Economist decide what is overpriced? It calculates a fair-value measure for property based on the ratio of house prices to rents. According to The Economist “the gauge is much like the price/earnings ratio used by stock market analysts. Just as the worth of a share is determined by the present value of future earnings, house prices should reflect the expected value of benefits that come from home ownership….Shares are deemed pricey when the p/e ratio is above its long-run average. Similarly, homebuyers are likely to be overpaying for property when the price-to-rents ratio is higher than normal.”
Using this measure The Economist finds that Spain is the most overvalued, by 55%, followed by Hong Kong (+53%), Australia (+50%), France (+40%), Sweden (+35%), Ireland (+30%), and Britain (+29%).
The most undervalued property markets are Japan (-34%), Germany (-15%), Switzerland (-9%), and the US (-3%).
The problem with this method is it’s based on official housing market price statistics, which in Spain’s case are detached from reality. As I explain in my last article Spanish property prices down just 6pc in 2009 says Government, everyone in Spain knows that the Ministry of Housing’s figures are baloney. There are no reliable figures for the Spanish property market, but I guess that prices are probably down by more than 10% on average last year, and by 30% or more since the peak. If The Economist used real transaction price figures it would find that Spanish housing prices are much closer to fair value than they think.
Given how damaging it is for Spain to have international creditors read in a prestigious magazine like The Economist that Spanish property prices are the most overvalued in the world, you would think the Ministry of Housing would be racing to make its figures more accurate. That one step alone would do more good than all the ineffective initiatives produced by the Ministry of Housing in the last decade.
To be fair, The Economists recognises several flaws in its measure, such as how it fails to capture important variables like the change in real interest between countries, and how far back the data goes for each country. But it misses the biggest flaw, which is that it is only as good as the official data it is based on. In Spain’s case, that data is almost meaningless, which makes the results for Spain meaningless too.
The Economist concludes that “in spite of these blemishes, the price-to-rents gauge is a useful check on how puffed-up property markets are…That house prices in America are back in line with rents suggests that the worst of its correction is over. Europe’s housing correction, however, seems far from over.”