Bottom shekel / Who's protecting the value of your house?
Every time Bank of Israel Stanley Fischer lowered interest rates over the past several months, he explained he had to in order to achieve the bank's goals.
Every time Bank of Israel Stanley Fischer lowered interest rates over the past several months, he explained he had to in order to achieve the bank's goals. Which are - keeping prices stable, encouraging employment and economic growth, and shoring up the stability of the financial system. Listing these reasons time and again, Fischer lowered the central bank overnight rate slice by slice, to its lowest level ever, 0.5%.
That said, it isn't easy to quantify the contribution of the interest rate cuts to the central bank achieving its goals.
For one thing, we're still in the middle of economic upheaval. Sentiment has sweetened in the last month, little green shoots of hope have appeared in the rubble, but these hopeful indicators don't mean the crisis is over.
For instance, even though the Bank of Israel chieftains think the low interest rates will help encourage jobs (low interest, cheaper loans, greater financial freedom for companies, more hiring and less firing), in practice unemployment has been on the rise, and fast. At least some of the drop in central bank interest rates isn't filtering through to the business sector: It's staying at the banks. A lot of companies are still struggling to obtain credit, and the sharp downturn in global trade is badly hurting Israel, mainly its high-tech sector.
Yet in some sectors, the impact of change in interest rates is clear. One is the stock market. Another is the real estate sector.
True, both markets are affected by a long list of elements, not only the price of money. Equities are affected by the performance of stock markets around the world, investor expectations, company financial statements, and speculation by major players. The real estate market is also affected by the shekel-dollar exchange rate and by macroeconomic indicators, including the supply of land for development and building starts.
But lowering interest rates has a strong impact because at present levels, low-risk investment alternatives are not attractive. If you can't get meaningful interest on bank deposits, or short-term central bank certificates (makams), or money-market funds, you are by default pushed toward riskier investments, such as stocks. Or property.
Stocks (and corporate bonds) are an alluring alternative, albeit a risky one, due to the retreat in the last year. The behavior of the indices this year shows that a lot of people are willing to take the risk - the TA-100 index has gained 27% and the index of finance stocks has gained even more.
The same is true of investment properties. But there's a difference. Stock market activity is characterized by involvement of big players, such as institutional investors and investment funds, while the real estate market is more the realm of the general public.
The Housing Index, which is a component of the consumer price index, rose by 1.6% in March. That was quite a surprise for pundits who'd assumed that the global economic crisis was depressing housing prices.
The low interest rates play a role in this surprising upturn.
First of all, they make mortgages more affordable. True, the rate set by the Bank of Israel is short-term only. But the central bank recently decided to start directly influencing long-term rates too. It can do so - and is doing so - by buying government bonds on the open market.
The Bank of Israel had stopped intervening in the bond markets 13 years ago. Its resumed intervention pushes up bond prices and lowers yields. "The aim of this program is to foster conditions that will support an easing of credit conditions in the economy," it has stated. Low yields on government bonds lead to lower interest on other instruments.
Short-term interest rates also affect mortgages. That's because more and more Israeli homebuyers are choosing mortgages based on prime interest rates, rather than interest linked to the consumer price index, which had once been the standard.
The prime rate is interest banks charge their most creditworthy customers. Basing one's mortgage on the prime interest rate has several advantages, including the freedom to repay early without paying a fine. Also, you pay less when interest rates are falling. Falling rates drive up demand for these mortgages.
Now, when interest rates are very low, sellers are finding themselves with cash in hand and nowhere to put it, until they buy new homes. The money could be put into the stock market, but that isn't a favorite venue these days for people unprepared to lose a lot of money. Nor are bank deposits a good solution - the interest banks pay on deposits is laughably low, even if you're depositing a hefty chunk of money.
The third solution is not to fiddle around but to buy a new home quickly.
So if you had thought of selling your domicile, waiting two or three years for prices to drop and then buying a new home while chuckling all the way to the bank, take this into account. While your money rots in a bank deposit, it's not making money. And nobody's promising that housing prices will be any lower in two or three years.
There's a fourth solution. Don't sell your house. Wait to improve your living conditions. You don't have anywhere safe to put the money in the interim, anyway.
People going with the latter option are reducing the deal flow in the real estate market. But it keeps prices steady, and this is one of the reasons that housing prices haven't fallen through the floor - because of people hanging tight.
There is of course another reason why Israel's real estate market hasn't collapsed, like the markets in the United States and Britain. Unlike them, we didn't have a real estate bubble. The market for land is regulated by the state, and financing is sane.
Property prices could drop in the next year or two. I'm not saying they can't or won't. The worse unemployment becomes, the more biting the recession, the more pressed people might become to sell, despite the personal cost. But for the time being, the market is standing pretty strong.