Cablegate: Housing Market Slump Continues

DE RUEHMD #0538/01 1350845
P 140845Z MAY 08



E.O. 12958: N/A

C. 07 MADRID 2306

1. (SBU) Summary. Spain's housing market slowdown was long
predicted but is proving more severe than most local analysts
had anticipated. An oversupply of newly-built properties
coupled with decreased demand has resulted in a glut of
unsold homes. Because of this, real estate developers are
finding it difficult to pay back their loans, construction
activity has sharply decreased, and unemployment has
significantly increased. The local media has emphasized the
severity of this downturn, referring to the situation as a
crisis and implying drastic effects on the broader economy.
GOS officials and banking industry representatives are more
optimistic and have said that they still expect a soft
landing for the economy as a whole with an end to the
downturn by 2010. Despite this optimism, a key question will
be how successful Spain's economy is in generating
sustainable growth, investment and jobs outside the
residential construction sector. End Summary.

Downturn Worse than Predicted?

2.(SBU) Following a 10-year boom, Spain's residential real
estate market is experiencing a downturn brought on by high
prices, oversupply and decreasing demand. According to
housing analysts at the Spanish Savings Bank Association
(CECA), from 2004 to 2007, housing starts averaged an
unsustainable rate of 600,000-700,000 per year (more than
Germany, the UK, and France combined), and prices rose
rapidly. During this period, a rate closer to 400,000 was
justified by Spain,s demographics -- even after taking into
account immigration and second home purchases by foreigners.
In the end, Spain was due for a correction, particularly as
property purchases by foreigners tapered off. (Comment:
Although CECA analysts did not mention it, significant
interest rate increases between mid-2005 and mid-2007 may
have contributed to the end of the boom as well. End

3.(U) The excess supply has been compounded by a decreasing
volume of home sales beginning in 2007. In the fourth
quarter of 2007, sales were down by over 20% from the fourth
quarter of 2006, according to GOS statistics. Even after
sales started to decline, builders continued to complete and
bring to market the many homes that had been started at the
height of the boom. This aggravated the glut of properties,
which some experts currently estimate at upwards of 600,000
unsold new homes.

4. (U) As a result of the glut of unsold properties, real
estate developers are experiencing difficulty paying back
their loans. International credit market difficulties have
aggravated these financing problems. Prominent Spanish
construction companies and developers such as Llanera,
Ereaga, Contsa, SEOP, and a number of others have filed for
bankruptcy, citing the inability to meet billions of euros
worth of short-term debt obligations. Others have managed to
renegotiate the terms of their loans in the short term.

5. (SBU) Because developers and construction companies have
reduced their residential construction activity, many workers
in construction and related business have been left without
employment. Although increased unemployment was expected,
the increase is proving to be worse than anticipated.
National Institute for Statistics (INE) 2008 first-quarter
data show construction-related job losses of over 400,000
from the previous quarter. In addition to construction
sector job losses, the services sector was also seriously
affected. Spain's overall unemployment rate increased from
8.0% in the third quarter of 2007 to 9.6% in the first
quarter of 2008. The current total number of unemployed
workers is slightly over 2.3 million, and a March 2008 KPMG
study now predicts that the sector freeze may destroy up to
1.2 million jobs in the next two years.

--------------------------------------------- -------
GOS Officials Still Predict Soft Landing For Economy
--------------------------------------------- -------

6. (SBU) While Spanish officials acknowledge that the
downturn has been more abrupt than anticipated, in general
they continue to maintain that the economic situation is
stable and headed for a soft landing. Second Vice President
and Economy and Finance Minister Pedro Solbes asserted at a
May 7 legislative hearing that while the economic adjustment
was more rapid than anticipated, the downturn would end by

MADRID 00000538 002 OF 002

the second half of 2009 with a return to 3% GDP growth in
2010. Other Spanish officials have espoused similar messages
to us in private.

7. (SBU) A Ministry of Housing advisor recently told us that
she and her ministry were confident that Spain would be able
to successfully weather the adjustment. She asserted that
the services sector would absorb the newly unemployed and
that government public works programs to stimulate other
types of construction would cushion the blow. (Comment:
Other officials have indicated that public works spending
already is high and is not likely to be increased
dramatically. End comment.) Furthermore, the GOS would
increase its stock of subsidized homes for low-income
families to help real estate companies offload unsold

8. (SBU) The advisor also highlighted characteristics of
Spain's housing market that she argued would prevent the
overall economic adjustment from becoming overly serious.
For example, despite increases in inflation and interest
rates, Spanish homeowners are still paying their mortgages
and have very low delinquency rates compared with other EU
countries. She noted that average home down payments in
Spain are 20 percent of the value of the property, meaning
that homeowners in Spain have more equity in their homes and
thus higher incentives to avoid defaulting. Typical
mortgages in Spain are 25-30 year adjustable rate mortgages
tied to the Euribor interest rate.

9. (SBU) Staff from the Spanish Savings Bank Association
(CECA) also told post that they were continuing to predict a
soft landing for the economy as a whole. They called the
housing downturn a short-term market correction that would
reach equilibrium by 2010. They said that the glut of
properties was in some ways an inevitable phenomenon,
reaching its peak as Spain's 1960s baby-boomers completed
their property purchasing cycle. When asked about the effect
on the financial sector of the high number of real estate
developers and construction companies declaring bankruptcy,
one analyst said that Spanish banks were well-equipped to
deal with high levels of bad loans given the Bank of Spain's
conservative policies on reserve requirements.


10. (SBU) While on the surface GOS and financial sector
representatives appear calm, the Spanish media continues to
portray a grim picture of the residential construction
situation. Opposition Popular Party representatives have
harshly criticized Spanish officials and accused them of
neglect and complacency and of a failure to confront the
crisis. News about real estate developers or construction
companies facing financial difficulties or other negative
economic indicators is a daily occurrence and draws a sharp
contrast with GOS assurances. Although there likely is less
urgent political concern within the GOS now that the March 9
election has passed, there seems to be some disagreement on
appropriate steps. Vice President/Minister Solbes has said
that the GOS should not try to impede "artificially" the
necessary adjustment in the construction sector, and he has
rejected a Housing Ministry proposal to provide tax
incentives for residential improvements. Still, the news in
construction is expected to get worse before it gets better,
and the GOS is likely to feel pressure to address the
sector,s problems somehow.

11. (SBU) Despite assurances from GOS officials, a critical
issue is how Spain's economy will make the transition away
from the residential construction sector, which recently
accounted for up to 9 percent of Spain's GDP. Many newly
unemployed workers from the construction sector have low
skill sets not easily adaptable to other sectors. Labor and
Housing Ministry officials have told us in the past that this
population, many of whom are immigrants, will make the shift
with the help of GOS initiatives to increase job training
opportunities. Bank economists also have been optimistic
about the ability of the services sector to absorb many of
the unemployed. The extent to which this takes place will be
crucial, as it appears that construction will not return to
its former level for the foreseeable future.


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