Following a period of robust growth, the world economy is losing momentum with growth rates faltering against a backdrop of high commodity, and crude oil prices, and unprecedented financial shock, which initially erupted as a result of the subprime mortgage collapse in the United States. In what emerged as liquidity crises in the short-term money markets, and believed by many to be confined only to the housing market, has quickly spread to other sectors gathering a storm of financial upheaval resulting in losses to both US and European banks. The impact of the now full-blown financial crises is now being painfully felt across the entire global financial network. Rising concerns over solvency, and the clampdown on lending, has further decelerated economic growth pushing the US economy into recession, while other developed economies including Europe stand precariously on the edge.
The impact on developing economies still remains largely uncertain. However, undertones in the market point to a significant weakening in economic growth in these countries. The Asian economy, for instance, is expected to slow during 2009, but unlike the developed countries, spending power is not likely to receive a major blow, given the relatively higher national savings at both the government and household levels. In comparison with the developed countries, national savings rate in Asia as a percentage of the GDP stands at 45% as against just 20% in developed economies.
US: Entangled in a Massive Crises Never Before Witnessed
The epicenter of the global slowdown, the US economy continues to deteriorate, despite measures taken by the European and US governments in controlling the financial crises in the form of extension of deposit insurance, injecting massive levels of liquidity into the financial system, cuts in policy rates to shore up liquidity, and passing of legislations that channel the use of public funds into purchasing troubled assets from banks. As the financial upheaval assumes frightening proportions, the US economy is expected to feel the perspiring heat of a full-scale financial-stress-driven recession.
Pitted against this background, the commercial real estate market is collapsing with debt becoming increasingly scarce, and expensive, and transaction activity remaining depressed at an all time low resulting in plunging construction starts. The complete meltdown of the financial system is creating a massive distress in the real estate market with credit being totally withdrawn from this sector. The subprime crises, which initially curbed the public debt market has now spread to the private lending sector with portfolio real estate lenders, and commercial banks, which were hitherto still providing credit to the commercial real estate sector, freezing all lending activity. The growing void in the real estate debt market is eliciting an impact most profound and the downward pressure exerted on the already exacerbated sector is poised to worsen in the upcoming years. Industrial and commercial properties are witnessing stinging falls in occupancy rates, falling tenant demand, and rentals. The residential housing market similarly, is witnessing declining home ownership, new constructions, and eroding property values.
Europe: Hopes for a Recovery Dim Further
In Europe, the economic outlook has been largely clouded as a result of the global financial crises. As the European economy finally braces itself for a prolonged period of recession, subdued GDP growth in the EU stands at a forecasted 0.6% for the year 2009 with Western Europe bearing the brunt of the recession. Tightening bank lending, falling property values, spate of new fund redemptions, shrinking debt, weakening economic climate and the threat of possible defaults in loan covenants, are all pushing the real estate market in Europe further into an abyss. Although, the present mayhem in the market creates opportunities for lucrative buy of real estate securities, investors are expected to adopt a wait and watch strategy. The downfall of US investment banks has extended additional bargaining power to local banks in Europe. Nevertheless, there has been a general tendency among these domestic banks to suspend real estate lending. As a result, average leverage ratio of real estate transactions in Europe is expected to deteriorate in the short-to-medium term.
Despite falling office space demand, rental rates posted an increase in Europe, largely due to robust growth stemming from Russia, Turkey, Poland, and Czech Republic, which have helped counterbalance declines in Western Europe. Interestingly, although sluggish, residential home prices in Europe rose by 1.5% in the 1st three months of 2008, despite weak consumer sentiments, this is largely due to steady housing demand in Central and Eastern European countries. Bulgaria, for instance, posted a 32.2% growth while Russia raked in a 26.5% growth. Nevertheless, notwithstanding these mild yet encouraging signs, outlook for the short-to-medium term is poised to deteriorate with UK, Ireland, Sweden, Netherlands, Germany and France expected to post drastic declines. As funding gaps increase, property value plunge, and uncertainties heighten among existing real estate loans, European real estate market is in for its toughest challenge ever.
Economic activity in developing regions of Asia and Latin America although decelerating, are placed better than the mature, developed countries. These regions are just beginning to feel the impact of the prolonged global financial crises. Fears of a further financial deterioration are resulting in tighter credits, and reduced capital flow. However, support of the local governments in ensuring mortgage availability is expected to cushion the negative impact, especially on entry-level housing. Argentina, Brazil, Chile and Mexico have continued to post increases in GDP growth on a quarterly scale. However, deceleration of growth emerges as inevitable over the horizon. The property market, both commercial and residential is facing challenges in the form of temporary lull in lending, higher costs of financing, and rising vacancies. A slowdown in financing is considered inevitable despite the strong year-to date statistics. For instance, banks in Brazil recorded US$10 billion in lending in the 1st three quarters of 2008, representing a spectacular growth in comparison with the year 2007. However, falling consumer sentiment, and constrained spending, will lead to declines in the short-to-medium term, and the real estate market will largely witness challenges limited to just restrictive credit, and risk aversion.
In Asia, transactions relating to real estate, which is already weakening is expected to slide further during the year. This is primarily because of the repercussions of the US financial crises manifested through the Asian capital markets in the form of reducing flow of foreign capital into the region. Putting the gravity of the scenario into perspective is the fact that global direct real estate investment into Asia receded by 42% during the first six months of 2008. Tightening lending norms is expected to further aggravate the already declining investment activity. Decline in property values and rent is forecast to gather momentum in the short-term. Although not severe, weakening business confidence is expected to put into limbo expansion plans in the commercial property market.
Rising office vacancies, especially in case of large enterprises, are pushing rentals down. In case of the residential housing market, rising levels of unemployment, reduced household wealth and spending, fears over an impending recession, and weakening consumer sentiments are expected to result in slower sales and lower home prices. Singapore, Korea, and Japan, have all recorded a rise in unsold homes. In China, despite a possible stagnation, a strong 9% projected economic growth coupled with the urbanization trend, is expected to make the residential housing market relatively resilient in comparison with other Asian countries.
In conclusion, the inherent economic resilience of developing countries to cushion the external shocks of the global crisis will help ensure an although depressed yet positive growth. In short, developing economies are witnessing signs of a slowdown, unlike the complete meltdown being witnessed in the developed economies. Although this period of turbulence is not expected to result in an acute level of distressed sales as witnessed in the US, the Asian property investment market will nevertheless turn into a buyer’s market.