The determinants of house prices in Malta : a measure of misalignment and affordability

Abstract

House prices are of particular relevance in Malta, in the light of high home-ownership rates and a significant rate of mortgage credit issued by banks. Following the acceleration in house prices between 2000 and 2015, concerns and speculations of housing bubbles in the medium term remain on the increase. This suggests a misalignment between asset price and underlying value, as determined by fundamental economic variables (Gatt and Grech, 2016). The index portrays a period of price overvaluation upon Malta’s EU succession in 2004, reaching a significant peak between 2006 and 2007, and eventually moderating post-2008 financial crisis. This persistent growth in prices was driven by a number of economic and socio-political factors primarily, construction costs, inflation and the labour supply (Micallef, 2016). Following this period of disequilibrium, the misalignment index reached a trough in 2013, reflecting a negative contribution by all sub-components (Micallef, 2017). Following a 5 to 6 year period of correction, house prices rebounded in 2013, registering robust growth rates in 2014 and 2015, driven by a sustained rise in economic growth and unemployment levels reaching historical lows. Other government policies targeted at first time buyers and investors also played a significant role in the housing market, as well as high disposable income levels and the influx of foreign workers in recent years (Gatt and Grech, 2016; Micallef, 2017). This led to an increase in house prices, reaching a peak by the second quarter of 2018 and moderating thereafter. The overall misalignment indicator assumes buoyant growth in house prices during 2018 was primarily fueled by a rise in domestic prices levels, increasing construction costs and a rebound in private consumption. Additionally, results for the Maltese housing market, based on the ARCH-type models suggest that volatility is significant and persistent. Further analysis using the SWARCH estimation indicates that house price behavior in Malta can indeed be divided between two states; a high-price regime and a low-price regime. Looking at the CBM House Price Index, high volatility in the period t-1is smoothens down the volatility in period t, whereby prices tend to be more volatile in low-state. These results contrast those attained for the Misalignment Index, whereby a higher degree of volatility is pronounced when the misalignment lies in the high-state, thereby reflecting a smaller magnitude for the negative disequilibrium of market fundamentals.