To this extent, we recall that
the Bank of Spain deems that house prices were
overvalued up to 20% in 2002 and up to 30% in
2004. While a slowdown in the pace of growth has
already occurred, its seems that prices need to fall
further in order to reach equilibrium.
Bottom line:
With the ECB likely to proceed with
normalization of interest rates also in the first half of
2007, tighter financial conditions will put further
strain on an already overstretched consumer. On
the one hand (the liabilities of households’ balance
sheet), the rise in short-term interest rates will make
loans and mortgages more costly, thus reducing disposable
income, while stimulating savings. On the
other hand (the assets side), a marked deceleration
in housing activity would weigh on the consumer
sector as well, via a negative wealth effect and via a
reduction in employment and activity in the construction
and housing sector. We thus expect personal
consumption growth to slow down from
3.5% this year to 2.9% in 2007. In turn, this will
drive GDP growth down from 3.7% this year to 3.0%
in 2007. While surely this is far from disastrous by
eurozone standards, it still would be a sizeable
downshift, driving growth below the 3.3% that was
the average over the last four years. For Spain to
withstand the headwinds coming from a housing
and consumption-led slowdown, it will be crucial to
find “alternative sources” of growth: An increase
in competitiveness vis-à-vis other eurozone countries
would probably be more than welcome, given that so
far net exports have been a heavy drag on growth.
Over the last decade, net exports have subtracted on
average 1.1 pp from annual GDP growth.
