MARKET HISTORY: What factors inflated the Spanish building boom that caused so many off-plan investors to lose their money?

Boomtime new development in Andalucia, off-plan deposits and stage payments can now be reclaimed
Boomtime new development in Andalucia

The latest in a series of articles I’m writing looking back at the Spanish property boom and bust, in this piece I discuss the factors that inflated a bubble that caused so many off-plan investors misery when it burst.

One reason so many property investors lost their deposits and off-plan stage payments in Spain after the last boom was because consumer protection laws turned out to be toothless.

Another reason was the scale of the building boom itself, which was off the charts. At the height of its building boom Spain was starting more homes that France, Germany, and Italy combined. There were almost 900,000 housing starts in 2006, the majority of them around big cities like Madrid, and on the Spanish coast. The building boom on the coast was fueled by local and foreign demand – in particular from the UK and Ireland – which is why so many off-plan investors from those two markets lost their deposits and stage payments when boom turned to bust.

The boom was so out of control I believe it would have collapsed anyway, but the worldwide financial crisis of 2008 made sure there was no hope of a soft landing. The crash was so dramatic it swept away almost the entire Spanish home building industry in a tsunami of business failures. If the crash hadn’t been so dramatic, fewer foreign investors would have lost their deposits.

So what factors inflated this boom that teed-up so many problems and misery for off-plan investors?

Spain Joins the Euro

Spain abandoned the Peseta and adopted the Euro when the common currency was launched in 1999, thus handing over monetary policy to the ECB (Germany), driving down the cost of borrowing in Spain, and eliminating the exchange rate risk for investors. Loads of cheap money flooded into Spain, and reckless, incompetent savings banks controlled by local politicians and their cronies sprayed it like gasoline on a property sector that was just heating up. So the introduction of the Euro fuelled a credit boom managed by cretins that inflated a real estate bubble of gargantuan proportions.

Rising Demand

As the Spanish economy modernised and integrated into Europe after the transition to democracy in the 80’s, and resumed growth after a recession in the early 90’s, local demand for modern housing grew steadily, but really took off when the building boom turbo-charged economic growth at the turn of the Century, helped by large-scale immigration from Latin America (many immigrants came to work on building sites). Meanwhile, a real estate boom in other countries like the UK and Ireland made people feel rich and view housing as a one-way bet. A craze for overseas investment fueled by TV programmes and glossy magazines bought them to Spain in increasing numbers, egged on by a strong Pound. As news got out of rapidly rising prices and juicy cash (tax-free) profits to be made ‘flipping’ off-plan investments in Spain, a herd of naïve off-plan investors headed for Spain, to join the punch-drunk local investors who also thought the fiesta would never end.

The Planning System Restricted Supply

Long lead times in homebuilding ensure supply lags demand the world over, but the problem is exacerbated in Spain by a dysfunctional planning system that is unresponsive to demand, and prone to corruption. So when demand starts rising a bit faster, shortages emerge quickly, so prices start rising faster, which sets of an upward spiral of speculation, rising demand, and rising prices. If lunatics are in control of credit, as they were, it’s a combustible mixture. What many people don’t realise is that the molten core of the Spanish real estate bubble was land speculation encouraged by the planning system. The cost of labour and building materials did rise in the boom, but nothing like the cost of land, which rose to over 50% of development costs in some places, and drove up the cost of housing. Spain’s dysfunctional planning system has not been fixed, though it is better in some places than others.

Naive Investors

Many buyers both local and foreign were terribly naive, and let greed get the better of them. In Spain at the time it was common to hear locals say things like ‘property never lets you down’ (el ladrillo nunca te falla). Foreign buyers were no less guilty of drinking the Coolaid. Though they didn’t realise at the time, they were buying in a market they didn’t understand in the slightest, in a market with zero transparency, full of sharks and shysters, led on by true claims about the money early investors had made. I set up SPI in 2004 and remember being amazed at how buyers were prepared to believe the bullish claims of obviously creepy organisations and people. I noticed how good professionals who tried to be cautious about their claims just lost business to hard sell operations. A herd of gullible investors from abroad created huge demand that drove builders on the coast into a frenzy, and the apparently easy money to be made from property development sucked in people who had no business building homes.

The Spanish building boom of 2000 – 2007 was insane and ensured that, when the bubble burst, carnage followed. Housing starts dropped 97% in the ensuring years (see chart below), and the Spanish home building industry was all but wiped out. If the boom hadn’t been so out of proportion, the inevitable adjustment might have been milder, more developers might have survived (or at least the better run ones), and fewer off-plan investors would have lost their deposits and stage payments.

spanish housing starts in Spain

After 10 years of crisis the home building industry has finally turned the corner and housing starts are on the rise, though they are still 95% below the peak. The planning system is still restricting supply as demand rises, but luckily this time round credit is hard to get, so land prices won’t skyrocket like last time, although they are already rising too fast in hot markets like Barcelona and the Balearics, where local politicians blame speculators rather than fix the planning system.

Buying Spanish Property Off-Plan Today

So, is it still as risky to buy off-plan in Spain today? Fortunately not. Professional standards are higher than they were, and some of the new breed of developers are well run. But most of all, consumer protection laws today do have teeth, because banks are now responsible for guaranteeing off-plan stage payments, not just developers. So even if a developer fails to deliver and goes out of business with your stage payments, which is very unlikely at this stage in the cycle, and even if the developer didn’t provide you with a bank guarantee or insurance policy as required by law, then the developer’s bank will be liable, and will have to pay you back.

There is also good news for those who lost their deposits and stage payments during the last boom. They too can take the developer’s bank to court and get their money back with the help of Spanish Legal Reclaims.

Spanish Legal Reclaims – Get Your Money Back

spanish legal reclaims

This series of articles on the Spanish boom and bust is sponsored by Spanish Legal Reclaims, legal advisors who specialise in helping recover off-plan deposits and stage payments.

SPI Member Comments

Thoughts on “MARKET HISTORY: What factors inflated the Spanish building boom that caused so many off-plan investors to lose their money?

  • This kind of insight is just invaluable and let’s hope we all learn from the past.

    Never epwant to see those times again, can’t fault a single word here, you have this and your previous article spot on, I was there also, so I think I am qualified to comment.

    It was tragic really, and let’s pray you are as equally right about the future.

    This should be required reading for a lot of folk.

    • Mark Stücklin says:

      Thanks for your kind words Chris. It was a crazy period. Let’s hope we never go there again, but as I try to point out in the article, the Spanish planning system encourages speculation, boom, and bust. The big difference this time is the banks aren’t lending like crazy, so I hope we’ll avoid another bubble.

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