The silent killer of Israel's real estate market
The real estate bubble that has developed in Israel during the past three years doesn't involve swift price increases followed by huge losses. It won't burst - just gradually bring down a large group of people.
When we say "real estate bubble," we immediately think of the American bubble. We think of years through which housing prices rose and rose, only to suddenly collapse, leaving people impoverished. We think of the collapse of the financial system that financed the real estate bubble. We think of the huge segment of the public that believed housing prices could only go up, and of the banks and credit rating agencies which invented the financial tools that sowed such tremendous destruction in the global financial system.
And so, when we talk about whether there is a bubble in the Israeli property market, we automatically wionder whether housing prices will continue to rise or whether they will drop sharply; whether Israeli lenders will meet their payments or whether there will be a large wave of insolvency; and whether Israeli banks are prepared for unemployment, recession and a wave of American-style mortgage defaults.
Herein lies the fundamental mistake made by economists, buyers, bankers and policy makers in the Israeli housing market. A bubble doesn't necessarily involve swift price increases followed by a drop and huge losses to lenders.
There are other types of bubbles, too, the kinds that don't burst one day on the stock exchange or in the market, but gradually spread and bring down a large group of people.
Such is the real estate bubble that has developed in Israel during the past three years. No one can say with certainty whether one day prices will collapse, whether banks will fail and investors will lose tens of billions. But regardless, the current prices of houses and rentals are causing tremendous damage to Israeli society as a whole.
Attempting to predict housing prices is as certain as attempting to predict the stock market. We have failed at it more than we've succeeded. Few people anticipated five years ago that we would enter an era in which, all over the world, including in Israel, there would be near-zero real interest rates over such a long period, and that this would combine with other factors to propel real estate prices But still, we must send a message to the decision makers and the general public regarding the long-term damage caused to Israeli society every year that tens of thousands of Israelis purchase homes with large mortgages that devour an increasing percentage of their disposable income
August saw the renewed craze of purchasing homes for increased prices, with huge mortgages, and apparently with high leverage (the ratio between disposal income and equity on the one hand, and the size of the mortgage on the other ).
The real cost of these mortgages is liable to increase dramatically in the next 20 years, when the era of cheap money ends. Nobody knows when that will be, but what is certain is that in the past 20 years the real interest rates in the financial markets have been double and triple the present rates.
Every month and every year that thousands of young couples, single-parent families, those making home improvements, and all the other types of buyers in Israel take out mortgages at rising prices, with equity that represents up to half the price of the apartment, and with mortgage payments that eat away at their disposable income - every year this happens increases the risk that in a few years an entire generation living in Israel will be enslaved for decades to the homes they bought.
Amazingly, this generation does not have a big lobby. And those who do already own homes, mainly the leveraged ones among them, want the prices of homes and rentals to keep rising, either because they bought the home as an investment or because they want to feel good about their decision.
In recent years, the public discussion about housing prices has focused mainly on whether the prices are inflated and on the effects of government policy. But the truth is that there is another, preliminary discussion that has not dominated the conversation: Do the decision makers in Israel - and the entire Israeli public, for that matter - really want to see a drop of 20%, 25% or 30% in housing prices?
That's not certain. There are major economic interests that benefit from high housing prices, and there are entire economic systems based on the assumption that prices will not decline. If housing prices drop to the levels they were at two or three years ago, this could cause heavy losses in numerous areas of the economy: tax revenues, the construction and land industry, local authorities and cities - and as a result the banks and of course the buyers in recent years.
Thus, despite all the talk of the cost of living and the cost of housing, there are major forces in the economy that don't want significant change. Talking is enough for them. And that's why there's a good chance we won't see any real change in government policy in the coming years.
A drop in prices and heavy losses to the banks could cause the housing bubble to burst. But there is a chance that it will burst for another reason: One day, in another three, five or 10 years, we will wake up and discover hundreds of thousands of Israelis who are so enslaved to their mortgages that they have no chance of maintaining a reasonable standard of living and quality of life.
Then they will ask where the money is, and they'll find out that when housing prices greatly exceed the growth rate of the economy, these increases transfer wealth from the have-nots to the haves. And that's what is happening now. The hundreds of thousands of Israelis who have taken out or plan to take out mortgages are transferring their future wealth to the state coffers (taxation ), to property owners (renters and sellers ), to land owners and to anyone who benefits from rising real estate prices. It is a transfer of wealth from the have-nots to the haves.
In the short term, there are mainly beneficiaries of the rising prices: the expanding state coffers, which distribute salaries and salary increases (mainly to the workers in the monopolies ); the construction materials industry; and all those who bought apartments in recent years. They're doing great, but on the margins are the poor souls with average salaries looking at homes costing a million shekels.
But some day those margins will be huge. They will form an entire generation that has mortgaged its future. The generation that in recent years has been buying homes for unprecedented multiples of its equity and its disposal income is just like the generation now being produced by the school system, which has deteriorated in the past 30 years, and the generation of employees who do not have tenure or budgetary pensions.
It will be a lost generation. The lucky and talented ones among them will flourish professionally, and will make their payments - but many will encounter a cruel job market. And then they will realize that the decision makers and the general public betrayed them.
The longer housing prices continue to rise, the more difficult it will be to bring about change in the cost of housing and the cost of living. Meanwhile, risks will accumulate in the financial system, the structure of expenditures and the number of manufacturers in the market will increase and adapt to the high prices, and the lobby opposed to addressing the problem gradually will become accustomed to them.
There is a good chance that this problem will not be brought to the prime minister, finance minister, Bank of Israel governor or other political and governmental players. Addressing the problem now involves risk, just as addressing any structural problem in the economy at first creates opposition, risk and a violent lobby that opposes change. But it is essential. Housing prices in Israel are a social and economic cancer that is gradually spreading. They do not reflect genuine economic growth or expectations of a better future. Rather, they reflect the failure of a country to look in the mirror and plan for the long term.