Luxembourg, with its Unesco World Heritage Site fortifications, wooded valleys and pastoral plateaus has long attracted speculators, landlords and first-time buyers hoping to obtain a slice of its ever-inflating property market. The result is concerning. An apartment in the city centre typically costs €11,657 per square metre--upwards of €1 million for a two bedroom (100 square metre apartment) according to the Luxembourg Institute of Socio-Economic Research, and a family home is out of reach for many.

Recently, the problem has become even more acute. According to European Central Bank figures, house price growth in Luxembourg over the period from the fourth quarter 2019 to the second quarter 2021 has been the highest among euro area countries.

For Reinesch, the problem is structural, and the solution lies firmly with Luxembourg.

“This is a very complex problem which can’t be addressed through punctual single policy measures but requires an encompassing and coordinated policy action road map established by the government as a whole on the basis of a fullfledged analysis on the basis of all bottlenecks, relevant variables and policy objectives,” he tells Delano in an interview.

Reinesch has written extensively about Luxembourg’s real estate issues online and particular in a recent blog . He warns that without some form of intervention, the problem will only get worse. “This structural imbalance puts upward pressure on house prices (prices of land and dwellings), thus contributing to an accumulation of a whole range of economic, social, public finance and political problems as well as vulnerabilities in the domestic property market,” he writes in the blog.

This includes an insider/outsider situation where the younger generations are unable to secure a foothold on the housing market.

It also creates risk for property owners. According to the blog’s findings, the average overvaluation measure estimated by the ECB and the European Systemic Risk Board for Luxembourg has increased since the fourth quarter of 2019 and stood at 51.3% in the second quarter of 2021. In layman’s terms, this means that Luxembourg is at higher risk than most European countries of a house price downturn. Uneasy reading for those who have scrimped and saved to own property in Luxembourg.

What is more, inflated property prices mean large mortgages: in a cross-country comparison of household debt carried out by the ECB, Luxembourg is positioned in the upper right quadrant, corresponding to the highest annual nominal price growth level, as well as the highest annual nominal mortgage growth rate of all euro area countries.

Can Luxembourg do more?

The tendency among Luxembourgers has been to blame external factors like EU monetary policy. Certainly, wider EU monetary policy has exacerbated Luxembourg’s housing woes. Since covid-19 in particular, necessary and decisive monetary policy measures to maintain a low interest rate environment have supported the borrowing capacity of households, further inflating the housing market. These same favourable financing conditions have also combined to cushion house price risks in the short-term, with ECB house price-at-risk estimates pointing to lower near-term risks of a significant downward correction in prices.

However, postponing the problem should not be regarded as positive, cautions Reinesch in the report. “Lower risks in the near-term should not be misconstrued as an improvement in the overall level of vulnerability, because downside risks remain elevated and are likely to continue to increase in the medium-term,” he writes. The role of monetary policy is also overblown. “If monetary policy was the key determinant of residential property prices, one would expect a more uniform pattern of price growth and valuation estimates across countries,” he adds in the report. Instead, Luxembourg is an outlier in Europe.

"The current highly accommodative monetary policy has had a reinforcement effect of recent price evolutions, but it is not a root cause or a main driver of the more than two decades long-lasting worrisome land and house price dynamics," he tells Delano in the interview. 

Deep-rooted structural problems

According to Reinesch, Luxembourg’s housing issues has its roots much further back in time. “Between 2001 and 2018, while the population increased by almost 175,000, the number of dwellings constructed was approximately 53,000. In an environment where the supply of housing is constrained, various policy measures focusing on reinforcing the demand for property tended to fuel the prices of plots and dwellings and then, economically speaking, had a negative distribution effect,” he writes.

Fortunately, the solution also lies firmly in the hands of Luxembourg decision-makers. Increasing the supply of constructible land and dwellings, including social and affordable housing, and ensuring a competitive construction sector would help to alleviate market constraints and shortage of plots and dwellings over the medium-term, the report said. These actions would also be key in ensuring access to home ownership for the population at large.

Reviewing the spatial planning policy to allow for a more efficient land-use and discouraging land hoarding through revising the taxation policy on vacant land and unoccupied dwellings would also create incentives for housing development.

Ultimately, favouring constructible housing supply is critical to curb the structural factors that drive the economic, social, public finance and political problems as well as the housing vulnerabilities in Luxembourg. Moreover, measures aiming to align housing supply and demand need to be part and parcel of a broader infrastructure policy strategy at national, regional and local level (including education and transport), accounting also for considerations related to economic and environmental sustainability, Reinesch writes.

“The rapid and voluminous monetary policy actions of the Eurosystem at the beginning of the pandemic in March 2020 prevented a spillover of the economic crises caused by the sanitary crisis, into a financial crisis. This was particularly beneficial for the Luxembourg economy given the relative importance of financial activities in the Luxembourg economy,” he explains to Delano.

It would appear important not to blame monetary policy but to be aware of the numerous ways Luxembourg socially, economically, in budgets, in terms of redistribution can do more, the report iterates.