Stumbling stone:
How new housing has become a ticking time bomb for the Russian economy
April 5, 2023
  • Tatyana Rybakova

    Journalist and writer
Tatyana Rybakova explains the essence of the dispute over mortgage lending between the Ministry of Construction and the Central Bank, as well as the influence of the largest developers.
The new home market in Russia is driven by lobbying - if a developer has good connections in the government, it can edge out competitors by offering attractive mortgage rates on its properties.
Source: Wiki Commons
At a March 27 press conference, Deputy Minister of Construction, Housing and Utilities Nikita Stasishin warned that “certain real estate experts” should be careful with their forecasts “so as not to mislead Russian citizens.”

This comes as experts are increasingly discussing the possibility of the Russian housing market overheating, with a “mortgage bubble” growing amid the popular “preferential mortgage” program. And it isn’t just “certain experts” – the Central Bank of Russia (CBR) is also calling attention to the issue, worried about possible financial shocks should the real estate bubble burst.

Literally the next day after Stasishin’s comments, Alexander Danilov, who heads the CBR’s Banking Regulation and Analytics Department, said that preferential mortgages are no longer helping to make housing more affordable, as due to rising prices, an apartment in a new building costs the equivalent of eight years of the average annual income, while back in 2019 it was six years. “What are we talking about with affordability? We know how it works, a preferential program is first come up with, then these schemes with near-zero interest rates. And then what? Are we going to come up with negative rates? Some other schemes? The scope for this sort of artificial support [for mortgage demand] has run out,” he concluded.

Pandemic legacy

Back in 2021-22, developers were widely taking mortgages at near-zero interest rates, starting at 0.1% for the first year or two. Working with a bank, the developer would subsidize part of the interest on the mortgage. The flip side was overpricing by the developer – as a result, buyers did get some relief during the initial payback period, but very much overpaid for housing in general.

The CBR came out against preferential mortgages right when they were introduced in 2020, while in mid-March of this year, CBR Chair Elvira Nabiullina publicly promised to fight “God knows what” mortgage schemes that developers had come up with.

Preferential mortgages were introduced by the government when the pandemic brought sales of new housing practically to 0: Russians could get a loan at 5% with a down payment from 15% (for some it was from 10%). At that time, bank mortgage rates were 9% or higher, so there were plenty of people who wanted to take out a loan on preferential terms. Had the program remained in place only until mid-2021, as originally planned, it would have been considered a success that had helped the construction industry effectively overcome the pandemic crisis.

However, as they say in Russia, there is nothing more permanent than a temporary measure: once introduced, preferential mortgages have taken on a life of their own, being extended and extended, with interest rates adjusted, restrictions on the loan amount introduced, the criteria for the program changed, though the basic principle has remained that the so-called Agency for Housing Mortgage Lending (Dom.RF) would subsidize part of the interest payments on mortgages for new housing.

This is the problem:
“While the existing home market lives by the laws of supply and demand, the new home market lives according to the rules of lobbying.”
If a developer has good connections in the government and deals with major banks, it can edge out competitors by offering attractive mortgage rates on its properties – while keeping profits high by raising home prices.

Is the glass half empty or half full?

Thus, the current dispute between the CBR and the Ministry of Construction clearly reflects government-business relations in modern Russia.

The CBR is responsible for the financial stability of the country. With Russia waging war in Ukraine and spending up to a third of its budget on it, the CBR is trying to thwart developers whose greed risks bringing down the financial system.

The Ministry of Construction has its own truth. It promotes housing construction, and it cannot do that any other way than through preferential mortgages. The MMI Telegram channel, seen as close to the CBR (one of the channel’s creators now works there), claims that winding down preferential mortgages will push prices for new housing down and in turn demand up.

This is refuted by experts close to the Ministry of Construction, whose estimates suggest that the profitability of construction is now such that only large developers can afford to lower prices, in which case regional developers would be ruined. Deputy Minister Stasishin is saying the same thing – in his view, currently the market has a perfect balance between prices and opportunities for upward mobility.

In this dispute, everyone has their own truth – the Ministry of Construction, as a lobbyist for the construction sector, cannot allow companies subordinate to it to go out of business, while the CBR cannot allow banks to go bankrupt, which have already issued more mortgages than all other loans combined.

The outcome of the dispute depends not so much on which side is right or what the market conditions are, but on
“What is now more important for the government: economic growth, which is largely driven by the construction sector, or financial stability, which the CBR is trying to maintain.”
In theory, the second is more important now, which is why the CBR has prepared a draft directive that would raise risk ratios for banks on reduced-rate mortgages – in other words, if the interest rate is lower because of an agreement with a developer, the bank would have to put up more reserves against that loan than usual.

Central-bank directives are mandatory for banks, insurers, brokers and other financial market participants supervised by the CBR. However, reasonably cautious regulation can easily be derailed by lobbying, and now the CBR is watering down the proposals. Still, it has kept to its position that the minimum down payment for a mortgage should be lifted, with a gradual raise from the current 10% to 20% starting June 1, 2023 and to 30% starting January 1, 2024.

In theory, this measure should weed out potential defaulters – experts consider a 20% down payment the minimum criterion for a borrower’s ability to pay back a mortgage. The problem is that the drop in household income is unlikely to allow developers to find enough buyers who can pay 20% of the price tag up front. Thus, we should expect a loophole to be found soon. For example, the developer and banks friendly to it could offer deferred payments, or something like that.

Thus, the mortgage bubble will continue to grow in Russia, contrary to the wishes and needs of the authorities themselves. Because any temporary measure that benefits one or another interest group with lobbying power necessarily becomes permanent.
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