By Dorval AM

The fall in property prices in France raises questions about the scenario for a gradual economic recovery. However, the causal link between property prices and the general economic cycle needs to be put into perspective.

Early indications from estate agency networks for the second quarter suggest that house prices in France are down between 4% and 7% on the same period last year. Since the peak of Q3 2022, prices would therefore have fallen by around 10%. In other eurozone countries, however, trends are quite different (graph 1). After falling sharply in 2022 and 2023, prices in Germany are recovering slightly. In Spain, the rise has continued, and in Italy property prices seem to have stabilized. The recent real estate correction is therefore essentially French.

While advertised prices have thus far fallen only slightly on average in the eurozone, real prices – i.e., adjusted for inflation – have undergone a marked correction due to the surge in consumer prices since 2021. In the eurozone, property prices have therefore fallen well behind inflation in goods and services. In the past, such real price corrections were symptomatic of periods of recession (graph 2).

For many observers, it therefore seems hard to believe in the resilience of the European economy when real residential property prices are losing 10%, and commercial property prices are falling sharply. Yet causality works well in one direction, but not necessarily the other. While recessions generally produce a fall in real property prices due to falling incomes, a fall in property prices alone has little reason to cause the economy as a whole to plunge. Firstly, because the sector’s weight in the economy is not sufficient to tip growth, and secondly, because the links between real estate prices, activity and employment in the sector are very loose.

At 10% of eurozone GDP, the weight of the real estate sector seems significant, but most of this 10% comes from the services provided by real estate, measured by rentals and rents “imputed” to home-owning households. The real estate sector genuinely affected by price and transaction trends is much smaller, accounting for less than 2% of GDP and 1% of total employment. Even if we add in the construction sector, this barely reaches 7.5% of total employment. What’s more, the fall in real estate prices has not, at this stage, had a strong impact on employment in these sectors across the eurozone as a whole (graph 3).

The direct impact of falling property prices is therefore fairly small. There are, however, indirect effects, including wealth effects. The wealth effect assumes that, faced with a fall in wealth, such as real estate, a household will want to save more (and therefore consume less) to replenish its lost wealth. Successive studies carried out in France and other eurozone countries suggest that these effects are weak to very weak, whereas they are sometimes quite significant in Anglo-Saxon countries. Consumption in Europe is likely to be much more dependent on employment and purchasing power, the latter of which has finally been moving in the right direction for the past year or so, as inflation in goods and services has fallen below wage inflation.

Finally, the hypothesis of a downward spiral in property prices in Europe – which could end up having more significant effects on the economy – has become less likely with the process of interest rate cuts initiated by the European Central Bank on June 6, 2024.