Like in Australia and Canada, Sweden has seen its real estate prices surge over the past few years.

After having been undervalued during the early 90s, real estate prices increased far more sharply than disposable income per capita (chart 1). Since the 2008 crisis, the accommodative monetary policy implemented by the central bank has certainly contributed to the recent increase in prices. This is not the only factor in play however. Since the mid-90s, the Swedish real estate market has been structurally imbalanced. Favourable taxation, for example mortgage interest deductibility, has boosted access to the property market, while housing supply has for many years remained lacklustre. Construction costs are relatively high and environmental regulations are also extremely strict. Furthermore, the narrow rental market is driving households towards ownership, as rent controls (chart 1) and highly-protective legislation for tenants has discouraged investors from renting-out their properties (waiting lists for rental housing in Stockholm have grown from less than 100 000 by the turn of the millennium to more than 550 000 in 2016).

High prices in the real estate market, combined with very low interest rates has driven Swedish household debt higher (chart 2). Most mortgages are contracted over relatively long periods, mainly at variable rates (chart 3) and primarily as interest-only loans, and are therefore highly sensitive to any increase in base rates and fall in prices.

The Swedish banking system is also relatively vulnerable to a turnaround in the residential real estate market. Mortgages represent a significant proportion of their assets (chart 4), and the total size of their balance sheets, compared to GDP, is among the highest in the European Union. Furthermore, maturities among banks’ liabilities are significantly shorter-dated than their outstanding loans and also than the average observed in the European Union, while the loan-to-deposit ratio is among the highest in Europe.

Against this backdrop, the central bank has implemented macro-prudential measures from 2010 onwards. Banks now have to constitute higher provisions to offset a potential real estate market turnaround, while households with high levels of debt will have to amortize their loans more rapidly. With gradually increasing interest rates, real estate prices should stabilise over the next few years - as has already become discernible since December 2017 - and the increase in household debt should slow down significantly. A less favourable trend cannot be fully ruled out however…

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