Cheap Debt Threatens Swiss Economic Stability by Matthew Allen, swissinfo.ch
The Swiss economy should wean itself off low interest rates and cheap mortgage loans as soon as possible if it wants to remain healthy, according to a study by the Organisation for Economic Co-operation and Development (OECD).
The latest OECD economic profile of Switzerland, which is updated every two years, has once again warned that banks, business, homeowners and pension funds are in danger of a hard landing once interest rates start to normalize.
The report came out on the same day that Swiss government figures showed the country’s economy had stagnated in the third quarter of this year.
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The OECD has highlighted the Swiss property issue before, but the risk has magnified since the last Swiss report in 2013. Back then, the Swiss National Bank (SNB) was holding the exchange rate between the franc and the euro in check to prevent the franc from gaining too much value.
But the abandonment of that policy in January of this year has seen the franc rise against the euro. The SNB consequently introduced negative interest rates to boost consumer spending and prevent the price of goods falling into negative territory. By also making debt cheaper, the SNB has ensured that investing in bricks and mortar has never before looked so attractive in Switzerland.
“The unintended consequences of negative interest rates are becoming more evident. The SNB should evaluate how low interest rates can go and for how long,” the OECD study states. The SNB is widely expected to keep interest rates low, or perhaps even drop them further, during its next monetary policy assessment on December 10.
Palette of reforms
Swiss households have now poured CHF1.8 trillion ($1.74 trillion) into property (up from just over CHF1 trillion in 2005), according to SNB figures. Pension funds, starved of decent returns from the stock and bond markets, are also investing more of their funds in property. This has helped fuel the highest rise in residential property prices of all OECD states this century, behind only Israel.
Mortgage loans made up the lion’s share of the CHF794 billion in outstanding household debt last year. This mountain of mortgage debt is now 20% higher than the entire economic output of the country – an OECD record by some margin.
While the OECD recognises recent regulatory changes introduced by Switzerland to keep mortgage lending in check, the economic survey recommends further measures to cool the property boom, such as increasing housing supply.
The OECD report also recommends a broader palette of reforms – from labor policy to public spending, agriculture, education and the environment – to boost its economic prospects in the coming years.
Of particular concern is the 2014 referendum to limit the influx of migrant workers into the country.
“This measure calls into question a key source of Switzerland’s growth model and already appears to be weakening confidence,” the report notes. It recommends improving worker productivity, especially by getting more women into work, to counter the potential negative effects of the referendum.
Despite the criticism, the report notes that the Swiss economy has performed relatively well since 2009, especially when compared with European peers. The OECD predicts that Swiss gross domestic product (GDP) growth will reach 0.7% this year and 1.1% in 2016.
Swiss property boom
The cost of buying an apartment in Switzerland has doubled since 2000, according to the 2015 OECD economic survey. While property prices vary enormously depending on the region, the average single family dwelling has risen some 60% this century.
At 44%, Switzerland has the lowest rate of home ownership in Europe, and one of the lowest in the OECD. The rate has been increasing in recent years, but the OECD report speculates that supply of housing stock has failed to keep up with increasing demand – further inflating prices.
The boom in property prices was driven first by an economic upturn and a surge in well qualified European workers entering the country. After the financial crisis of 2007/8 it was fueled mainly by low interest rates that has made it cheaper to service mortgage debt whilst rendering interest bearing investments, such as bonds, less attractive to institutional investors. Switzerland’s traditional role as a safe haven in times of global economic strife has also attracted overseas investments into Swiss bricks and mortar.
Signs of property prices overheating in some urban and tourist hotspots has led to a regulatory changes. The Swiss Bankers Association has introduced a set of self-governing guidelines have been complemented by government rules that insist on banks holding a counter-cyclical buffer of assets to insure against mortgage loan defaults. The measures are designed to help avoid a repeat of the 1990s Swiss housing crash that saw banks lose an estimated CHF42 billion saw many smaller banks fail.