December 7, 2023 | Rome, Italy

Requiem for a bubble

By |2018-03-21T18:51:44+01:00November 14th, 2012|Essays|
Seseña, on the Madrid outskirts, called for 13,000 homes. Now, there are 750 inhabitants.

n the months preceding World War II, Harvard undergraduate John F. Kennedy spent considerable time honing a senior thesis that examined British aloofness from the menacing growth of Nazi German power in the 1930s. Published in 1940, “Why England Slept” introduced the young Kennedy into a public limelight he would never leave. Unlike similar accounts, Kennedy’s slender study refused to assign the blame only to London’s policy of appeasement, insisting that British shortsightedness began long before. Some said Kennedy was shielding his patrician father, Joe Kennedy, the U.S. envoy to London in the 1930s, from controversy. But Kennedy insisted the real problem lay in delusion and sense of security brought about by England’s emergence on the winning side of World War I, the war to end all wars, which it did not.

Palpable concern about the rise of Nazi Germany was confined to intellectual circles. The British citizenry hoped for the best while fearing the worst, with troubling scenarios kept at arm’s length.

Since World War II, the prospect of global war has all but vanished, replaced instead by economic lurches that can decimate without leaving scars. Parts of Greece and Spain now endure wartime-like conditions though the visible damage is social and psychological and not military.

Despite media focus on Greece, it is Spain that may have invited and nourished the Europe’s most devastating recent “sleep, ” encouraging a self-serving construction and real estate boom to dictate confident views about an economy that lacked any substance beyond the boom itself. A snapshot of perspective leading up to and into the ongoing Spanish real estate crisis, in common with English rationalizations of the 1930s, show warning signs that were willfully ignored and deliberately bypassed.

Long before the Spanish housing bubble burst three years ago and the country slid into deep recession, domestic politicians and economists cautioned that Spain’s self-made paradise might lack foundation. Though some of the cautions were tough and specific, they failed to rein in Spain’s bustling traffic in homebuilding and mortgages. For a country less than 50 years removed from dictatorship and general poverty, the trappings of success were simply too new and too heartening.

In 2003, two years into the transfer from the peseta to the euro, respected economist José Garcia Montalvo called the Spanish housing boom a “time bomb ready to explode,” a remark followed soon thereafter by overvaluation warnings from both the Bank of Spain and the International Monetary Fund, with the latter suggesting Spanish property might be overvalued by up to 30 percent. In 2004, José-Luis Rodriguez Zapatero, then the economic coordinator of the opposition Socialist Workers Party (PSOE), lamented the risk posed by an economy “based on the construction industry and mortgages,” adding, “Our families are at now more indebted than at any time in Spain’s history.” Zapatero, who later became prime minister, was the first leading figure to harp publicly on the B-word, bubble, which would later become a symbol of the country’s collapse. “We have repeatedly warned about the danger of a housing bubble,” he said, “but the government has remained deaf to our warnings.”

From 1996 through the third quarter of 2007, when the stalling began, Spain was seized by what some called “brick fever,” a penchant for building that galvanized the country’s economic fortunes in ways so spectacular that they put second-guessing to sleep (not unlike England’s anesthetized 1930s). The construction industry grew by about five percent annually for a decade, eventually producing 5.7 million new units, 30 percent more homes than had ever existed before. By the third quarter of 2007, builders employed 13 percent of all Spanish workers, a European record that put the country well ahead of Germany’s 6.7 percent and the UK’s 8.5 percent.

The housing boom was credited with lowering unemployment and helping Spain adapt to the still-vexing euro. Shades of the U.S. sub-prime crisis, it was also credited with giving long-suffering Spaniards affordable mortgages and a chance to own their own homes (the 11 percent of 1995 was 3.5 percent in 2005). The boom also ramped up immigration and expanded household size. Between 1996 and 2007, 4.2 million non-Spaniards, many from Latin America and North Africa, settled in Spain. Demand and consumer spending also grew, inflation with it, making real estate price hikes feel organic. Millions of eager residents borrowed money to invest in what they saw as a bulletproof industry supported by their government. Zeal and the rewards of speculation displaced logic and ostracized common sense.

According to Bank of Spain research, overvaluation peaked in 2004, a year when “drugged” prices averaged between 24 to 35 percent above the most optimistic possible appraisals. Hundreds of thousands new “players” invested in homes, hoping to resell them quickly and profit from what they foresaw as a built-in sequence of upward revaluations.

Spain didn’t so much ignore tolling bells as soundproof itself, complicit political parties, bankers and real estate agencies, whose management fashioned a well-oiled misinformation machine whose sound bytes trivialized pessimism.

“The idea of a ‘bubble’ is meaningless media babble,” Juan Jose Brugera, managing director of Colonial Realty, said in September 2003.

“Real estate bubble? The facts indicate otherwise,” insisted Ricard Fornesa, then head of La Caixa, Europe’s largest savings bank. “Not only is demand up, but prices are rising. Demand exceeds availability.”

“The construction industry these days is as strong as iron,” said Infrastructure Minister Francisco Alvarez-Cascos.

Propaganda consistently facilitated Spanish gullibility. In 2005, when boom doubts began emerging, the head of Barcelona Real Estate Fair, Enrique Lacalle, swatted them away. “There is no bubble. For years, I’ve been saying the same thing. What’s real is the sense of general satisfaction and confidence. I don’t know anyone who isn’t happy with having invested in real estate. On the contrary, many now regret not having gotten involved with a sector that’s now being fully appreciated.”

On the political front, the center-right government of Prime Minister José-María Aznar, which rode housing bubble coattails from 1996 to 2004, encouraged the prevailing mood. “Prices are going up because all the apartments that are being built are being sold,” Deputy Prime Minister Rodrigo Rato said in November 2003.

Aznar’s optimism was ironically furthered by the Socialist rise to power in April 2004, led by the same Zapatero who had once openly decried Spanish family debt. His party immediately hailed Spain’s “prodigious decade” and promised more of the same. On the eve of 2008 national elections that would re-elect the Socialists, Zapatero’s cabinet boasted all-time low unemployment (just under eight percent of the workforce), surplus-laden public accounts, and robust economic growth. With a per capita income higher than Italy’s, Spain seemed to have joined the Franco-German elite.

Appreciating why the Spanish bubble endured despite informed and objective doubt requires understanding the threat that bad economic tidings can pose to a country’s leadership and its ancillary institutions. Reining in the boom by erring on the side of caution would have meant acknowledging the potential for severe domestic disruption, a calamity even. It was a responsibility no one wanted.

The labor-intensive construction industry, manna to a modest nation long saddled with structurally high unemployment, was given a Wall Street pedigree of the kind that predated 2008. Favorable property values also favored middle class voters, now homeowners in their own right and suddenly powerful. Most important, real estate cemented the nation’s tax industry. In 2004, real estate and construction accounted for 60 percent of all tax revenue from Valencia and Madrid, where an eighth of all Spaniards live.

Despite its enthusiasm, the Socialist government gradually introduced verbal mitigations. The phrase “soft landing” was added in 2004, when then-Housing Minister Maria Antonia Trujillo called housing bubble doomsayers “irresponsible,” but added: “There will be a soft landing that will not damage the heritage of Spanish households that own property.” Three years later, in October 2007, new Housing Minister Carme Chacon insisted Spain’s real estate sector was “among the best in the world,” but in keeping with the theme added: “Today, we are experiencing a landing, or an adjustment, but a soft one.”

But in late summer 2008, when the Wall Street crisis broke free of its American moorings and headed toward Europe, Zapatero inexplicably backtracked on both soft landings and caution. “The American crisis will have no direct impact on the Spanish property market,” he said.

There would be no crisis, the government insisted, and market players at first behaved accordingly. Before the Wall Street fiasco deepened, Emiliano Bermudez, deputy director-general of Spain’s powerful Don Piso real estate agency, called the 2008 downturn a glitch and insisted the country would “return to normal within six months.” By the end of the year, Don Piso had closed 120 national offices and fired 350 employees.

Zapatero was now coming undone. According to the Madrid daily El Pais, the “financial debacle of 2008 shocked him into denial. He minimized the gravity of the crisis … until domestic and European markets nose-dived.”

The long-denied bubble burst.

With toxic U.S. assets devastating credit and paralyzing international lending, Spain’s construction-based economy stalled out. Suddenly, the heavily mortgaged country faced not only immense household and business debt but also the prospect of a paralyzed workforce concentrated in a faltering sector. Zapatero and his government, wrote El Pais, “stroked the sky with a finger before sinking into the deepest recession since the end of the war.” Not surprisingly, his party was routed in 2011 general elections. In mid-2012, successor Mariano Rajoy ordered national banks to set aside funds to cover irretrievable real estate assets now valued at €175 billion.

Post-mortems have only made the bubble folly look worse. In 2009, Madrid economic think tank RR de Acuña y Asociados published a report stating Spain had 565,000 finished but unsold units, with another 160,00 still under construction and 358,000 started but abandoned. Some 1.73 million housing units had been sketched out but never started while 1.342 million residential units were up for sale. An estimated 3.6 million private homes were empty and unlikely to be lived in for the foreseeable future. The construction industry’s debt to banks topped $400 billion. “This cannot be paid off,” the report concluded starkly.

In 2010, Jesús Encinar, founder of the property website speculated housing prices still had 30 or 40 percent to fall, perhaps more. By last year, the drop-off was estimated at 50 percent in some parts of the country. In August 2012, average property prices were estimated to have dropped an average of 31 percent over four years, with unsold homes numbering over two million. Repossession continues rising, along with evictions, with the country’s mortgage debt now topping $1 trillion. Many immigrants who arrived in the boom days have been forced home, with the government funding repatriation programs.

In 2011, El Pais described parts of the country as littered with “bizarre” ghost towns. “In the suburbs of large cities,” it wrote recently, “it’s not uncommon to find entire building blocks lived in by only five or six families.”

But this is same paper that in December 2005 gushed over Valdeluz, a vast new residential community near Madrid. “Valdeluz is unprecedented,” it wrote. “In just seven years, a grassy desert has been transformed into a city awaiting 34,000 people … and the project has wind in its sails. The nearby hamlet of Alcohete bustles with hectic construction. Some 9,500 new apartments are being completed and the first new residents are expected next summer.” The “crown jewel,” it added, would be an 18-hole golf course with cottages scattered on the greens.

Revisited by a reporter six years later, the same site generated more melancholy prose. “From this arid land, where you can still plant sunflowers and frogs croak in the summer … appears Valdeluz City, looking like a scar, a place that someone in an online real estate forum compared to a botched copy of Sin City … It had all the right ingredients: proximity to Madrid, a high-speed train, and competitive prices. A promotional video said it was sure to grow. But along the way something strange happened… What was called a slight discrepancy between supply and demand turned out to be a huge soap bubble: pop.”

Semi-deserted communities are a Spanish commonplace. In Seseña, on Madrid’s southern outskirts, real estate mogul Franciso Hernando, known as Paco El Pocero, conjured up a development that called for 13,000 homes. Less than half were eventually habitable with a recent census showed an estimated 750 residents. Bricked up ground floors are the rule.

Most striking about the bigger ghost complexes is they extent they evidence both the verve and vanity of their pioneers. The Ciudad Zaragoza Golf luxury development once aspired to become the third largest city in the Aragon province, with 45,000 residents. Its first 2,300 houses sold for €6,000 per square meter. But construction stopped in 2009. Today, Ciudad Zaragoza Golf, which lost its name in 2010, is a wasteland of mostly empty, half-finished buildings.

Evictions are ironic in their own right, since most of the foreclosed — an estimated 500,000 people — were tied to the humbled construction industry. Unemployed, they defaulted, with banks intervening to auction off vacant properties. But the recession has crippled all but the richest buyers, leaving desolation and demolition as the only options, which carry their own costs. Meanwhile, evicted families are on the embittering hook for properties they no longer live in or own. Foreclosure has blacklisted most of them. Squatters are abundant.

A quarter of the entire Spanish population is now unemployed, with most between ages 20 and 35. Though Italy’s rates are similarly high, it doesn’t face the mortgage dilemma. “Many young Spaniards have a millstone round their necks,” Enrique Quemada of One to One Capital Partners, a business consultancy, told the Guardian newspaper in 2011. “They will have to work their whole lives to pay for houses now worth half what they bought them for.”

Rafael Mayoral, the legal advisor to the Madrid branch of a group known as The Platform for those Affected by Mortgages (Plataforma de Afectados por la Hipoteca de Madrid), has been trying to give mortgages victims a voice. “In Roman law, slaves existed to pay off debts. Now, the word slave is gone, but the practice is the same. The Spanish banking system is founded on the enslaved debtor, who — despite losing a home — must respond to bank demands by pledging present and future assets until the end of his days.”

Economists Manuel Arellano and Samuel Bentolila of the Madrid Center for Monetary and Financial Studies (CEMFI) published a report wording that approximated the resigned. “An entire generation of Spaniards has lost its savings because they used them to buy homes that now have little value. As a result, the indebted can’t meet their burden. In a larger context, this illustrates the extent to which workers in Spain, at the height of the boom, were called on to focus on masonry and manual labor, on becoming electricians, plumbers, and truck drivers. They learned to make doors, windows, sinks, even how to become great mortgage salesmen. Now, all they learned is worth nothing. It turns out the Spanish miracle was a mirage. We dedicated ourselves to building homes that weren’t needed, and we ended up buying apartments that are now empty and locked up. A house means something when you live it. If you can’t, then it’s worth nothing at all.”

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