News have come out today that the ruling Popular Party or PP in Spain had, at least during 18 years, a double accountancy system, to remunerate its leaders with some extra cash for their good job. This was done with money inside envelopes and avoiding the inconvenience of paying taxes on this income. Moreover this money came mostly from the large construction companies in large amounts, with no questions asked.
In the meantime, these large construction companies and banks benefited for many years from the state policies that promoted the construction boom that crashed in 2007.
Can you see perhaps a possible link? Let us look at how this worked.
Economists, and especially those on the neoliberal side, have always argued that markets shouldn’t be touched, because these clear (i.e. the seller and the buyer always will reach an agreement on the amount and price of a good or service) and that actors are rational (i.e. we all take sound decisions when buying and selling, everyday and all the time). Well, both this affirmations are rarely true in real life, and the Spanish construction boom is a clear example of this.
The Spanish construction boom was an economic miracle, as described by all, as the number of homes in Spain doubled between 1976 and 2009 (to more than 26 million). This created a massive amount of jobs, the more menial often taken by immigrants from Latin America and Morocco, whilst the Spaniards took on the higher end jobs as well as the side-businesses like estate agents, architects, decorators, etc.. All this job creation became the measure of success. And importing labour instead of exporting labour (the balanced finally changed in the early 80s), a sign of economic development and pride.
But, if markets clear, this means that the good, in this case homes, were in great demand, and thus suppliers followed this demand by building more and more. But the number of households in the same period (1976 to 2009) increased only by 64%, so if nothing new was built prices should have risen more or less by the same percentage. But from 1986 where this statistic started to be recorded until the crash in 2007, house prices increased by over 750%. I can also cite a practical example I know of a price increase: the same apartment bought in 1975 for 1 unit, was worth 6 units in 1980, and worth 23 units in 2000. So a 2,300% increase in 25 years. I’m speechless, the best possible business ever.
Well you can argue that this growth in value was because demand for homes also increased, and its true that the percentage of homeowners in Spain went from 52% in 1960 to 81% in 2012. But, in a perfect market, this would be counteracted by the previously mentioned increase in homes. And since the later increase is larger than the first, prices should have gone down. But in the Spanish construction boom the opposite happened, no matter how much was built, prices went higher and higher.
So what pushed these prices up?
In 1986 Spain entered the European Community. This provoked a massive entry of funds which resulted in growth. From that until 2007, the gross national product per capita in Spain, grew 3,7 times. So on average people earned 3,7 times more and they could afford to buy more things including a home.
In addition with the entry into the single currency and the birth of the Euro, interest rates (including those for mortgages) went dramatically down, from 11% in 1994 to an average of 4,1% in this century. This made borrowing cheaper, thus larger amounts of money could be borrowed. You could get more in debt.
But these two things happened in all of Europe, and the increase in the percentage of homeowning households and the overall rise in house prices in the rest of Europe was far smaller. So what made it different in Spain?
The difference was on legislation and government action. Successive governments made in (theoretically) cheaper to buy a home, an example would be a tax exemption for the purchase of a home or the annual tax reduction for paying a mortgage. Regulations on banks to allow people taking loans were loosened, so banks were more free to lend. This regulation also prolonged the maximum duration of mortgages (from 20 to 40 years).
The banks themselves started to be less picky about who could sign a mortgage deal (and ignored Spain’s Central Bank recommendations) since house prices were constantly increasing, which meant if someone defaulted the house would pay for the debt. Spanish banks were also encouraged by the entry of capital from other Eurozone countries banks, attracted by this booming market.
What about regulation over the large construction companies? Well, during the 90s, when these companies were finding it more and more difficult to access land to build in, the government freed more land for construction, allowing basically to build everywhere. Building permits and land zoning was delegated to regional and local governments, who each did what they pleased and led to some horrible examples of massive constructions along the Mediterranean coast, for instance.
And finally during all this period this was accompanied by systematic regulation making the only alternative to home buying, renting, insecure and not worthwhile (reducing the length of rental contracts, facilitating the ejection of renters from your home for any reason, reducing notably the size of government owned residential buildings destined for rent, etc..)
Successive governments accompanied all this regulation, by constant messages saying: “This is the time to buy” “If you wait more, prices will shoot up even further”
All this gave us a situation where people living in Spain were told by government, banks, state agents, construction companies and media to buy a home.
But all this still this does not explain the rising prices. Well it actually does if you look at it from another perspective: Every time the interest rate went down, prices rose. Every time a tax cut came into effect, prices rose. Every time the legislation changed and you could borrow for more time, prices rose. So in other words, every time the buyers income increased, prices rose.
This is because the large construction companies colluded together to make this happen, so that they could get richer, since house prices rose following the increase in the average capacity of a Spaniard to get into debt or in other words to the average payments a Spaniard could afford to make.
Large construction companies set the tendency and the smaller ones followed. This is what in economic terms is called an oligarchy. They set prices together, but more perversely, they set them to the highest possible price the client could pay, because people being kicked out of the rented houses needed to buy and thus would pay as much as they could afford to pay for a basic need, housing.
And successive governments contributed to this, because whenever a 10% rebate on the property tax occurred the house prices systematically rose to cover this 10%. So policy that was intended to help the buyer, ended up being money channelled directly from the state (taxes) to the construction companies.
Banks made their business making more and more loans, construction companies made more and more money by increasing house prices without incurring further costs, and the politicians followed behind by facilitating all this.
So when you have envelopes full of money being given from the large construction companies to the largest political party in Spain, you can only wonder why it did not come out before.
This market did, and does, not clear, and Spaniards were lied and cheated in believing it did. Corruption is bad, but robbing from every single person who has bought a home in this time by forcing them to buy at high prices, is criminal.