The price of houses and apartments in Germany rose considerably last year and has continued to do so this year. The Bundesbank has warned of the risks that the German housing market faces, with high inflation being a chief concern.

Germany’s overpriced housing market

The Deutsche Bundesbank recently revealed in its financial stability report that the cost of buying a house in Germany rose by an average of 6,7 percent in 2020. With this trend continuing in 2021, the danger of the housing market becoming overheated is real. "According to our calculations, the prices of residential real estate are 10 to 30 percent above the value justified by fundamental data," said Bundesbank Vice President Claudia Buch.

Lending for residential real estate has also increased in Germany, by 7,2 percent in the past year. Buy-to-let continues to be an attractive option for entrepreneurs, with the Bundesbank survey showing that 90 percent of people in Germany currently expect house prices to rise.

According to Buch, overpriced housing is becoming more of a frequent issue outside Germany's cities and metropolitan areas.

Long-term fixed interest rates pose vulnerabilities

The Bundesbank said that the country’s financial system coped well with the coronavirus pandemic. “The extensive government measures have protected the financial sector from losses. But vulnerabilities continue to build up - to negative macroeconomic developments and especially on the real estate market." The Bundesbank is now concerned that, due to the perceived strength in Germany’s financial system, other banks may lower their standards for lending.

A drop in lending standards can pose a problem for the whole financial system as, according to the Bundesbank, “a high proportion of long-term loans and investments makes the German financial system vulnerable to interest rate risks.” Since half of all mortgages in Germany have a fixed interest period of over 10 years, Buch warns that "rising real estate prices can be critical for financial stability if more loans are granted with greatly relaxed lending standards and rising prices are expected.”

Joachim Wuermeling, a member of the Bundesbank’s board, also explained that high inflation rates can pose a risk to the German housing market. According to Wuermeling, the banks expect the current high levels of inflation to be only temporary but, if inflation levels continue to get higher or continue to remain high longer than expected, interest rates could rise, which would impact property prices as well. “The risk of higher inflation in the medium term has increased,” warned Wuermeling.