Last week, we made an overview of the housing and rental prices in the EU and Croatia. Today, we are bringing you our expectations for the development of housing prices in Croatia after its entry into the Eurozone.

If you want to read part one of this blog, click here. In this part, we decided to look at several key factors that could influence housing price growth. First of all, the foreign direct investment into real estate in Croatia, and our expectations for it. Secondly, looking at several countries similar to Croatia in some regard (in this case, the tourism aspect) and how the housing prices developed after they introduced the Euro. Thirdly, some of the forward-looking construction sector indicators. Finally, the housing loan growth as well as the housing loans interest rate development.

Foreign direct investment into real estate and accommodation in Croatia (2010 – 2022*, EURm)

Source: HNB, InterCapital Research estimates

*Latest data available is 9M 2022, FY 2022 data based on annualized data for the 9M 2022

Starting off with foreign direct investments, the Croatian National Bank (HNB) gives us an overview of how these developed, including data on the breakdown into categories. The categories we are interested in are real estate investment, as well as accommodation investment. Real estate investment in this case would mean real estate that was either bought or is under construction by a foreign investor in Croatia, for personal use. Accommodation investment would mean foreign investment into real estate, but for accommodation (tourism) related services. This could include hotels, camps, apartments, etc. The reason we are looking at both of these investments is that inherently, the majority of foreign investors, be it for personal use or for renting, are buying real estate on the Croatian coast. As such, excluding either of these categories would not give us the full picture. In 2021, real estate investments amounted to app. EUR 791m, which is an increase of 139% YoY. Accommodation investments amounted to EUR 127m in 2021, compared to EUR -58m in 2020, which was expected due to COVID-19. In 9M 2022, foreign real estate investments amounted to EUR 711.5m, a decrease of 10% compared to the full 2021. Accommodation investments amounted to EUR 241.2m, a 90% increase compared to the full 2021. What the graph above can show us though, is that both foreign real estate and accommodation investments have been increasing in the last couple of years, especially picking up speed in 2022. According to our estimates, if the current trend we have seen in 9M 2022 continues, foreign real estate investments could amount to EUR 948m in 2022, a 20% increase YoY. Foreign accommodation investments could amount to EUR 321.3m, an increase of 153% YoY.

Now that we have our estimates for 2022, we can look at several other things to gauge how this will develop further. One thing that we could look at is data from other countries that have already introduced the Euro. For this purpose, we looked at Malta, Cyprus, and Estonia, some of the newer additions to the Union. These countries were selected because the introduction of the Euro has been quite recent in them (2008 for Malta and Cyprus, 2011 for Estonia), and as such the data for longer periods, is available. Furthermore, Malta and Cyprus in particular, are interesting due to their reliance on the tourism industry. Unfortunately, other countries such as Greece, which would have made a better comparison due to its strong focus on tourism, but is a lot larger than Malta and Cyprus (both economically and geographically), cannot be used in this comparison. The reason why is that after Greece’s introduction of the Euro in 2002, housing prices have increased significantly. However, housing prices across the world have increased significantly up until the Global Financial Crisis (GFC) in 2008. As such, the period after the introduction cannot be used as a fair comparison. The period after the GFC got under control, also cannot be used, as Greece was one of the main reasons for the Euro Debt Crisis, and as such, there isn’t good enough data available.

Moving back to Malta and Cyprus, 10 years after the introduction of the Euro (2008 – 2018), the average housing prices have increased by 80% in both countries. In Estonia, in the period from 2011 – 2018, they have increased by around 60%. Furthermore, foreign buyers participated in 40% of all real estate transactions in Cyprus in 2019, and 30% in Malta. In Estonia, they participated in 14%.

So having all of this in mind, can we expect the same growth in Croatia?

To answer this question, one has to take into account several factors. First of all, housing prices have already increased, by an average of 47% in Croatia since 2010. Secondly, foreign investors already make up 30% of all real estate investors in Croatia. Thirdly, as we can see in the graph above, the trend of foreign investment has already been picking up speed for years before the Euro introduction, only really slowing down due to COVID-19. Also, purchases of real estate in Croatia have already been done in euros for years before the introduction of the currency as official. Lastly, of course, we have to take into account the current macroeconomic and geopolitical situation, especially in Europe. Economic indicators for Europe are pointing towards it heading to if not an outright recession, then at least a large slowdown of economic activity. Because of this, one could expect a decrease in investments. However, as real estate has always been seen as a good value-protecting asset, there could also be an increase in investments.

We could also look at some other indicators to try to answer this, such as the current volume of construction works and issued building permits, to gauge the future availability of housing, and the value of new construction, to see how future prices might develop.

The volume of construction works* (November 2017 – November 2022, monthly, 2015=100)

Source: DZS, InterCapital Research

*Seasonally and working-day adjusted

Using 2015 as the base year, we can see that the volume of construction works has been on a positive trend for the last couple of years, with the total volume being 45% in November 2022 higher than it was in 2015. Also, the main driver of this growth has been the construction of new buildings, which increased by 72.6% compared to 2015. It should be noted that in 2015, the Croatian economy just officially ended the recession, and the levels of construction were still far below the levels before the GFC. Even so, the construction works in November 2022 compared to the last year increased by 5.9% in total, and 7.6% for new buildings. However, if we look at the data for the last couple of months, one could begin to see a trend of slowdown, with the construction works being roughly the same in November as they were in September.

Building permits issued (2015 – November 2022, monthly)

Source: DZS, InterCapital Research

Issued building permits are probably the best indicator of future housing supply, as these permits are issued only when there is an intention to realize a construction project. In November 2022, issued building permits amounted to 896. Of this, 775 were issued for buildings, while 121 were for civil engineering. Compared to the same period last year, this is a 1% decrease in the total number of permits issued and a 2% decrease in permits for buildings issued. However, seasonality also has to be taken into account, so data for 1 month isn’t enough. If we look at the total number of building permits issued in 11 months of 2022, they amounted to almost 10k, which is an increase of 4% YoY. For buildings, the total number of permits issued in 11M 2022 amounted to almost 8.7k, an increase of 6.1% YoY. What this can tell us is that even though there was a (slight) slowdown in November, the issued building permits are still growing.

Value of new orders (Q1 2015 – Q3 2022, quarterly, EURm)

Source: DZS, InterCapital Research

The value of new orders placed is another interesting indicator, as combined with the volume of construction works, it can show us how much is actually being invested into new construction. Higher value throughout the years is expected, driven by supply/demand, inflation, and in 2021 in particular, building material price growth. In Q3 2022, the total value of new orders amounted to EUR 1.32bn, of which 46% went to buildings, and 54% to civil engineering. In 9M 2022, the total value of new orders amounted to EUR 3.2bn, an increase of 24% YoY. This is a trend we have seen for the last couple of years (excluding 2020 due to COVID-19), as in 9M 2021, the value of new orders grew by 20% YoY,  and in 9M 2019, by 19% YoY. Since 2015, civil engineering had a larger percentage of the total, standing at 52% on average, while buildings stood at 48%. This is to be expected due to civil engineering usually involving larger projects. In 2022 however, the numbers were more evenly split, standing at 50% on average for both categories.

One last thing that we have to consider is domestic demand, which is mainly driven by debt, or rather, housing loans. Considering that we are part of the Eurozone now, Croatia is also under the effect of the ECB’s interest rate hikes, which directly influence the interest rates on loans, and thus their supply/demand. The latest available data for this, published by HNB, is for November 2022, before the entry. However, given that the majority of these loans were issued in euros, it is still worth seeing how they developed.

Housing loans (EURm) and housing loans effective interest rates (%) (2015 – November 2022, monthly)

Source: HNB, InterCapital Research

Total housing loans amounted to EUR 9.8bn in November 2022, representing an increase of 9.8% YoY, and 0.7% MoM. This would mean that in the 11 months of 2022, the housing loans increased by EUR 838.5m, and just during the last month they grew by EUR 66.3m. In the 11 months of 2021, they increased by EUR 702m, while in November 2021, they grew by EUR 43m. At the same time, effective interest rates on new housing loans in euros amounted to 4% in November 2022, an increase of 0.95 p.p. YoY, and 0.82 p.p. MoM. Here we can see the direct effect of the interest rate hikes by the ECB, and considering that ECB signaled further interest rate hikes in the future, we expect newly issued loans to also have higher interest rates. Even so, the interest rates on housing loans have been lagging behind the interest rate hikes by the ECB. For example, since June 2022 (before the 1st interest rate hike that happened in July 2022), the effective interest rates have increased by little less than 1.5 p.p. During the same period, ECB’s interest rates recorded an increase of 2.5 p.p. As such, we do expect the interest rates on new housing loans to grow, albeit slower than the ECB’s growth. Even with these interest rate hikes, we can see that the demand for new loans has not yet stopped its growth. However, with the increases we are now witnessing, we should see this beginning to change.

Having all of this data in mind, we could estimate how the situation might develop in Croatia. Supply/demand for housing is still not in balance, with a lot of demand on the market. The latest construction indicators are supportive of further growth, both in terms of the volume of construction as well as the value of construction. The higher value of construction especially will mean that future housing/apartments will have to be sold at higher prices to compensate. If we combine this with the higher interest rates on newly issued loans, we expect this to have a downward effect on the demand for housing. As such, housing loan demand should also decrease. As we have seen a 10% growth in housing loans YoY in November 2022, in the coming period this should decrease to around 5-7%.

Furthermore, housing is a basic necessity and a form of investment in Croatia, and this will also be supportive of further housing loan growth and by extension, housing price growth. One last wildcard to consider is the aforementioned foreign investors. Even though experiences from countries like Malta, Cyprus, and Estonia point towards there being a tangible increase in demand for housing after the introduction of the euro, we are in a quite precarious macroeconomic situation right now. However, if we compare the prices of housing in the countries of origin of foreign investors, we can see that Croatia is still cheaper. Croatia’s position in Europe as a prime tourist destination will also be supportive of this perception. As such, in the longer term, we find the foreign direct investment into Croatia, especially into real estate to be supportive of further housing price growth.

So, will we see price growth similar to other countries that introduced the euro (80% in 10 years)? For such a long time period, with the number of factors we are dealing with right now, it is difficult to say. But, in a couple of years (1-3 years), we should see price increases of at least 5-10% yearly, which could end up on the downside of this range if the macroeconomic situation worsens, and on the upper bound if it improves. Only time will tell which of these predictions will come true.