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Housing bubble: What it is, how it happens, and when it bursts

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Housing bubble - what's behind the curtains?

High property prices and rising construction interest rates raises a question for many people: Is a housing market crash coming? In order to develop an understanding of this, it is helpful to take a closer look at how a housing bubble actually develops and what distinguishes it. It should be noted that currently there is no housing bubble, because an increase of price in the housing market is not the only sign of a developing real estate bubble. Rather, there are various aspects to be considered. Currently, the housing market is tight in cities, but various rural regions are not threatened by a housing market crash.

Definiton of a housing bubble

A housing market bubble can be driven by extremely fast and sharp increases in purchase prices. This is a speculative bubble on the real estate market. It occurs when supply and demand are out of balance and too many interested parties are faced with too few properties to buy. This leads to sellers offering their properties at higher prices, and prospective buyers paying them, because the demand pressure is too strong. However, growing property prices are not the only decisive factor for a housing market bubble to form. Other aspects that give rise to such a bubble are over-indebted households, bad mortgage interest rates and properties that are valued much higher than is appropriate. However, the increase in housing prices is only possible up to a certain point. When the real estate bubble bursts, people interested in buying will no longer pay the high prices, creating less demand and causing prices to fall sharply and within a short period of time.

Causes of a housing market crash

A bubble in the housing market occurs when different factors come together in an unfavorable way. Two major drivers that trigger an upward spiral in property prices are when too many loans are granted and the government intervenes too much in the housing market and creates disincentives to buy real estate. The more people can afford home ownership through mortgage, the higher the demand. If this meets a supply shortage in the housing market, it results in a steep jump in prices. The same applies if the government guarantees tax breaks for real estate purchases. Currently, in Germany, this is mainly due to the monetary policy of the ECB and certain legal regulations. They ensure an imbalance of supply and demand on the local housing market. However, as this does not apply to the whole of Germany, it would be wrong to speak of a housing bubble in Germany in 2022. Counteracting influencing factors are the still sound lending practices of banks and a lack of area-wide overvaluation of real estate.

Housing market bubbles can occur when buyers are willing to pay extremely inflated prices

Significant housing market bubbles in recent history

One of the best-known examples of a speculative real estate bubble is the housing market crash that led to the financial crisis in the United States in 2007. In the late 1990s, lending institutions pursued a loose mortgage policy, which led to low-income families and buyers being able to afford their own homes. The high demand caused prices to rise, yet banks continued to lend to people with too low a credit rating. At some point, these people were no longer able to repay their mortgages due to excessive charges and had to leave their homes. This caused a rapid drop in housing prices and subsequently the financial crisis, which also affected German financial institutions. In 1990, there was a speculative real estate bubble in Japan affecting office properties, and in the early 1990s the phenomenon was also observed in Europe for both, office properties and family houses.

Frequently asked questions

Written by:

Stefanie Aust, Guest Writer

Stefanie loves to put complex topics from the real estate world into understandable and inspiring words. Whether it's about the right financing, choosing the right type of flat, or a successful property search: Stefanie is happy to inform you.

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