Prices of property, crypto assets and risky financial assets most vulnerable to a rate hike
Toppy, or unsustainably high, asset prices across sectors propped up by cheap credit leave them especially vulnerable if inflation persists, the European Central Bank has warned. It added that if interest rates have to rise sharply, it will hit investment.
That includes mortgages as house prices in the euro area have rocketed this year at the same time as inflationary pressures that could trigger higher borrowing costs down the line.
The ECB report did not identify countries most vulnerable to a property crash, other than point out that lending standards in some markets, including loan-to-value and loan-to-income ratios are becoming increasingly loose.
That’s not true in Ireland, where the Central Bank’s macro-prudential mortgage rules cap borrowing by individuals, though not the share of homes being acquired by cuckoo funds or housing bodies.
As well as lending standards, this year’s surging house prices have also been boosted by government supports for households during Covid and the cheap cost of borrowing – in large part thanks to the ECB’s own policies.
It may also reflect households increasingly looking for more space as people plan to work from home for longer, the ECB said. Supply bottlenecks and labour shortages in construction are also hitting the costs of new construction.
The latest Central Statistics Office (CSO) data here show Irish house prices have increased by 12.4pc nationally in the year to September.
House prices increased 7.3pc in the euro area as a whole in the second quarter of 2021 – the fastest rate observed since 2005.
More positively, the latest Financial Stability Review (FSR) says officials are now less concerned than they were about a wave of corporate bankruptcies coming out of the pandemic, based on the strong pace of recovery so far.
However. near-term risks remain in sectors hardest hit by pandemic restrictions, especially where that’s combined with high debt.
Inflation is also highlighted as a risk both in its own right but also as a more medium-term potential risk to parts of the market already toppy thanks to cheap debt, including governments, households and more speculative assets like junk bonds and crypto currencies.
“Concerns particularly relate to pockets of exuberance in credit, asset and housing markets, as well as higher debt levels in the corporate and public sectors as a legacy of the pandemic,” the FSR said.
ECB President Christine Lagarde conceded earlier this week that eurozone inflation will stay high for longer than expected – but she stuck by her prediction it will drop below its 2pc target in the medium term.