1. Tallinn University of Technology Estonian housing market: affordability problem and regulatory framework Angelika Kallakmaa angelika.kallakmaa@tallinnlv.eengelika.kallakmaa@tallinnlv.ee Ene Kolbre ene.kolbre@tseba.ttu.eene.kolbre@tseba.ttu.ee

2. Tallinn University of Technology „Although the problem of declining affordability has been widely discussed in the media, the theoretical underpinnings of the concept of affordability have received rather less attention from academics“ (Gan, Hill, 2008)

3. Tallinn University of Technology Housing market Estonia Early in the 1990s the real estate market was relatively passive and the price levels were low Upturn in housing market started with economic growth and with activating borrowing process for housing purposes after 1999

4. Tallinn University of Technology Notarised Purchase-Sale contracts Source: Statistics Estonia

5. Tallinn University of Technology In the previous works We estimated, that there was a bubble in the Estonian real estate market and the total volume of housing loans has increased as a result of low interest rate and tight competition in the banking sector (Kolbre, Kallakmaa 2006, 2007)

6. Tallinn University of Technology Availability of financing is the critical factor for housing market Historically the housing in many countries was financed by the local lenders (Green, Wachter,2007)

7. Tallinn University of Technology Housing loan market In Estonia... is mostly shared by four credit institutions, which in all account for 93% of the total market. The largest market share is held by Swedbank – 43% of the total consolidated loan portfolio, followed by SEB Bank 23%, the Estonian branch of Nordea Bank 15% and the Estonian branch of Danske Bank 12 %

8. Tallinn University of Technology Why? Estonian government has made many decisions, that have influenced the real estate market, but no research has been done on trying to get an answer about the affordability problem in the housing market in Estonia. Also there are no analyses about the impact of regulatory framework to the housing market – are the government goals achieved or not?

9. Tallinn University of Technology The purpose of this study: how to evaluate affordability of housing in the Estonian market? to asses the regulatory framework decisions impact to the housing market in Estonia

10. Tallinn University of Technology The affordability of the average priced house Wildly used affordability models are normally focused on the relationships between house prices and a same demand factors: price/income ratio or mortgage payments purchase affordability repayment affordability

11. Tallinn University of Technology Traditionally used indicators to evaluate the affordability HAI index (US National Association of Realtors) BIS Shrapnel index (BIS Shrapnel Australia) Household debt service ratio (DSR) Financial obligations ratio (FOR) The Median Multiple P/I, price-to-income ratio

12. Tallinn University of Technology Repayment affordability HAI construction for Estonian market HAI = MR/ I Where, MR – average mortgage loan repayment for housing purposes I – average full time income

13. Tallinn University of Technology The assumptions for modelling we are using Estonian aggregated data PSV is average purchase–sale value of dwellings (value of purchase-sale dwelling contracts/number of purchase-sale dwelling contracts), Statistics Estonia, authors calculation average gross and net income, Statistics Estonia average mortgage loan (AML), authors calculation average mortgage loan repayment (MR), authors calculation for reference value we take 30 % of net income and 24 % of gross income average housing loan interest rate, Bank of Estonia personal income tax rate 21 %, Income Tax Act

14. Tallinn University of Technology We supposed, that AML = PSV x 2/3 where, AML – average mortgage loan; PSV- average purchase –sale value of dwellings and MR = AML/ A

15. Tallinn University of Technology HAI for Estonian housing market Source: Statistics Estonia, Bank of Estonia, author’s calculation

16. Tallinn University of Technology Purchase affordability The P/I ratio (ratio of a price per square metre to personal income ratio)

17. Tallinn University of Technology P/I ratio for Tallinn housing market (2 room apartments) (the ratio of a price per square metre to personal net income) Source: Statistics Estonia, Bank of Estonia, author’s calculation

18. Tallinn University of Technology Regulatory framework Government activities have also affected the real estate market. The impact of regulatory framework is difficult to measure, but we can’t underestimate its influence to the housing loan decision making process and also to the housing market as a whole

19. Tallinn University of Technology Government activity The possibility of deducting housing loan interests from taxable income A support system to eliminate market failures through the state foundation KredEx From the year 2000, when KredEx started to issue housing loan guarantees, until 2010: there are 13,640 young families, 7,300 young specialists and 69 tenants of restituted houses have improved their housing conditions, which makes a total of more than 21,000 households (Kredex)

20. Tallinn University of Technology We assume, that L / V ≤ ⅔ Taking into consideration that it is reasonable that the proportion of the housing loan should not be more as 2/3 of dwellings market value and this restriction was until 2002 also in credit institutions Where, L- Housing loan turnover in year V - Value of housing purchase-sale transactions in year

21. Tallinn University of Technology Regulatory framework Source: Statistics Estonia, Bank of Estonia, author’s calculation

22. Tallinn University of Technology Discussion Sharp rise in housing market started after the elimination of mortgage loan amount restriction, which caused also the worsening in affordability issues The worst was affordability situation in 2005-2009 There are same risks that needed a regulatory intervention, one is the need of credit standard tightening

23. Tallinn University of Technology The real estate bubble burst before the Lehmann crises and it gave the economy the time for recovering Political decisions might have been made with a purpose to ensure a better access for households to the loan market, but at the same time not thinking on its impact on the real estate market Conclusion

24. Tallinn University of Technology Conclusion Housing affordability problem is very important for all households and there is a need to continue with research in this field. Some households can not buy a house, some have loan repayment problems Government activity had helped to make housing loans affordable for households, but it has amended only households purchase affordability. The high debt burden has weakened the households’ financial position and brings forth the loan repayment affordability problem

25. Tallinn University of Technology Conclusion Policymaking is more of a form of art, then science, but there is a need for long-term thinking

26. Tallinn University of Technology  Thank you!