House prices and rents have soared in the EU since 2010. Will rising interest rates pull them back down?

House prices in the European Union have gone up far more steeply than the cost of renting a home in the past decade, according to a study of long-term real estate trends in the bloc.

The European Commission research shows that both rents and house prices in the EU have risen steadily since 2010. But the cost of buying a home has climbed by 45%, while rent increases have averaged a far lower 17%.

The market changed in 2015, when the price of owning a home started to rise much faster than the cost of renting one. That trend has continued since, and the gap has widened significantly in the past four years.

The European property market remained buoyant during the pandemic, fuelled by a long period of ultra-low interest rates and increased demand for bigger houses, as many of us were forced to spend more time at home.

Prices rose outside Europe too, even though large parts of the world economy were in turmoil for the first year after COVID-19 emerged. House prices climbed in 2020 in three-quarters of the 60 countries included in the IMF’s Global House Price Index.

And online searches for homes reached record levels in many countries, including the United States, the IMF says.

Even in Germany – where renting is traditionally popular – people were catching the property-owning bug. “We were fed up with renting … now at least we are paying off a mortgage and will end up with a real asset … its value has already increased by about 7%,” one man who bought a flat in a village in the southwest of the country told UK newspaper The Sunday Times.

As COVID-19’s grip on European economies began to ease, rents and house prices continued to rise in the first quarter of 2022, climbing on the year by 1.4% and 10.5%, respectively, the European Commission figures show.

But could Europe’s apparently invincible housing boom finally be coming to an end? As we face up to interest rate rises and the worst cost-of-living crisis in a generation, some experts think a slowdown is possible.

The European Central Bank (ECB) warned in May that house prices could start to drop if mortgage rates rise faster than inflation.

As Investopedia explains, interest rates influence the value of real estate because they dictate how much we have to pay to borrow money. “Low interest rates tend to increase demand for property, driving up prices, while high interest rates generally do the opposite.”

The recent rises mean the average home in the Eurozone is overvalued by nearly 15%, and by up to 60% in some countries, according to ECB estimates based on the relationship between house prices and earnings.

The European Commission says that housing costs have increased in 24 out of 27 member states since 2010. The hotspots are Estonia – where prices have jumped by 174% – followed by Hungary (up 152%) and Luxembourg (up 131%). Prices have more than doubled in seven EU states since 2010.

The only EU countries where house prices fell were Greece (23%), Italy (10%) and Cyprus (8%). But Greek property prices are still far above where they were in 2018, following sharp rises during the pandemic.

While the increase in rents has not been as steep, they have still risen in 25 of 27 EU countries since 2010. Estonia again recorded the biggest change, followed by Lithuania and Ireland.

Rising rents across Europe will only add to the pressure on family budgets already being stretched by inflation and an energy crisis that has led to the prospect of supply rationing in Germany.

Governments around the world are taking a range of steps to tackle the cost-of-living crisis, including big subsidies for public transport in Spain, minimum wage hikes in Kenya and tax cuts to fuel and essential goods in India.