Posts Tagged ‘Euro’
European Real Estate Funding Gap
Property Investor Europe sent me a report today about the shortfall in real estate funding in Europe. The implications are a bit nerve wracking.
First, some background — European commercial real estate investors place significantly more emphasis on “traditional” bank lending than Americans. As such, the sort of private-debt network that exists in the U.S. has not grown in Europe.
According to a report by the research firm Swisslake, central bank liquidity flows gave been directed at small and diversified loans, which are in high demand. However, commercial lending in Europe is actually facing cuts of €500 Billion or so. In addition, banks are increasing equity requirements, leaving real estate with large financing gaps, Swisslake calculates that only about $3.8 Billion headed towards Europe in the last year from non-bank lenders.
However, this is creating a market opportunity for private debt funds. Reportedly, 30 new funds have been launched in 2012, adding to the 20 new funds created in 2011. These funds have increased their market share to 20%, up from 15% at the beginning of 2012. Intriguingly, many former equity fund managers are now shifting to private debt funding.
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Real estate and the “long game”
The two big economic stories right now — and probably for the rest of the year — will be the impact of the Euro problems and the impact of the impending “fiscal cliff” in the U.S. We don’t want to minimize the significance of either of these impending problems on the financial world in general and real estate in specific. Indeed, either of these problems has the potential to bring down the global house of cards.
Nonetheless, it’s important to keep our eyes on the longer trends within which these crises exist. The exit strategy for either of these crises depends heavily — maybe even totally — on the trajectory of these longer-term trends.
A very brief article in the current issue of The Economist caught our eye this week. The article was about the disparity between the median population age of various countries and the average age of that country’s cabinet ministers. The goal was to show that in the “rich” world (e.g. — Germany), the cabinets more closely resembled the general population, while in the “emerging” world (e.g. — India, China) there was a large disparity, with attendant potential instability. In that context, however, the article wasn’t very compelling — the U.S. has a huge disparity, while Russia has a high degree of alignment. Go figure. What caught our eye, though, was the variation in population age among various countries, and the implications for long-term growth. Quite a few years ago, I was at an academic conference which discussed the increasing age of the population in Europe, and in that context how Europe had the potential to be the next Japan. An aging population has very significant implications for real estate — particularly in the commercial sector. As a decreasing portion of the population is working to support a larger and larger retired segment, there is both a generic malaise inherent in the economy (unless high increases in productivity are induced) and a decreasing need for commercial real estate space (particularly in offices, warehouses, and manufacturing).
In that context, the emerging nations of the world have an edge — note the low median ages in India, China, Brazil, and Canada. Ironically, the U.S. is also in that mix, and to a lesser extent Australia and Russia. At the other end of the spectrum, Japan and Germany have nearly the same median age problems. The latter is most problematic, since the German economy has been entrusted with bringing the Euro zone out of its doldrums. Clearly, a rapidly aging German population has less need for commercial real estate, but also less ability to drag the ox cart of Europe along the road to recovery. Britain, solidly part of Europe but outside the Euro, has a somewhat younger population — indeed slightly closer to the U.S. than Germany and about equal to economically stalwart Canada. The short-term horizon will continue to fuel real estate challenges and opportunities, but the “long game” context needs to be taken into account as opportunity-seekers consider down-the-road exit strategies for today’s purchases.
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Wither goeth the Euro?
Observations on Greece, the Euro, and the implications for real estate finance —
First, there is extraordinary confusion over the causes of the Euro crisis, and thus confusion over the effects, particularly here in the U.S. A few observations, to set the stage:
1. Europe is in a massive demographic decline. “Native” Europeans have a birth rate which does not support the population, and as such their “native populations are getting older and smaller. Up to a point, this has positive effects on the economy, because small children cost money and a population actually gets more productive as the “bubble” in its age demographic approaches middle age (middle-agers are more productive than young folks or old folks). The REAL problem begins when that bubble starts approaching retirement, and there aren’t any younger cohorts to replace them. This is part and parcel of what happened in Japan not to long ago, and the reason why the Japanese economy seems to be in permanent doldrums.
2. As an aside, I focus entirely on Europe’s “native” population. Unlike the U.S., Europe has a terrible problem integrating immigrants into its productive society. That’s a topic for others to expound on.
3. The Euro was formed in a very different way from the dollar. When the U.S. dollar was adopted as a currency, the Federal government took on all of the state’s “operational” debts (the “Alexander Hamilton Solution”) which resulted from the American Revolution, and the states were prohibited from running operational deficits going forward. States can issue debt to pay for capital items (highways, schools) but not for operational items. Hence, a state can’t borrow money to pay interest on money it already borrowed. The Hamilton Solution means that the U.S. has a highly integrated economy, unlike Europe’s, which is more artificially integrated. (One might argue that the U.S. also benefits from a common language. Anyone who has ever traveled from Seattle to New Orleans may debate this issue.)
4. Soooo…… if the U.S. borrows money to cover its operational deficit, it can “print” money to cover those debts. (OK — a bit of advanced Econ for ya’ll — “print” is an analogy. Technically, the Fed expands or contracts bank credit to increase or decrease the money supply. “Print” is just a handy shorthand for the more complex methods.) On the other hand, Greece can’t “print” Euros — they all come from European central banks.
One might notice that the debt/GDP ratios in Greece and the other troubled countries are no where NEAR where we’d historically see countries in dire straights (Given the dampening influence of the World Bank, IMF, the G-20, and such, we really don’t see hyper-inflation any more in emerging markets like we did a generation ago.) The big problem is that Greece can’t “inflate” itself out of debt by printing Euros. If they could, the banks would gladly loan them money so as to “kick the can” down the road a bit. If Greece had a growing, productive economy, then they could grow their way out of debt, but no-one buys into THAT fairy tale, either.
If, on the other hand, they withdraw from the Euro zone, they’ll be able to print all the Drachmas they want, albeit at terrible inflation rates. If the Greek citizenry thinks that current austerity plans are potentially painful, they should re-read some history of the German Weimar Republic (you know — that period in history when the Germans were so distraught, they elected Adolf Hitler because he promised to “fix things”.)
What does this have to do with real estate? At the core, the Greek problem (and by extension, the entire Euro problem) is a BANKING issue, not a debt/GDP problem. Admittedly, some countries within the Euro zone borrowed money that they had not idea how they would pay back. That’s a structural failure dating from the creation of the Euro, and it’s highly doubtful, particularly at this stage in Europe’s economy, that the Eurozone nations would be willing to accept such a level of fiscal unity and central governance. (Not to mention the European Union countries which are NOT members of the Eurozone — such as the UK).
Currently, in the U.S., we just came out of a banking-induced housing bubble. We’re currently IN a banking-induced housing depression. In the worst-hit states (for example, Florida and Nevada), the lending market, particularly for retirement or second homes, has nearly stopped. The Greek problem is, at its heart, a banking problem, since European sovereign debt relies much more heavily on commercial banks than in the US. Relatedly, banking is global today (Note how many HSBC Bank offices are scattered through the US?) At the back-office level, banking is almost completely global, with liquidity flowing across oceans as rapidly as phone calls and e-mails. (Recall: central bankers don’t “print” money anymore, they just fine-tune liquidity.)
With that in mind, an already damaged US banking system, with credit severely curtailed to one of the most important sectors of the economy, will be increasingly damaged if and as the Greek/Euro crisis continues to escalate. On the other hand, if the Greek citizenry recognizes that austerity under the Euro is preferable to ultra-austerity under the Drachma, then a huge sigh of relief will permeate the world’s banking customers.
From a small northwestern observatory... 