A residential construction price index compiled by the Federal Statistics Office increased from 100 in 2010 to 120 in Q1 2018. The average price of residential construction in major German cities has advanced to a minimum of about EUR 1,800 per square meter before the price of land is included, according to data from several real estate developers. Over the same period, the average price of a family home rose as much as 35%, according to the VDP Property Price Index.

“There are a number of reasons for rising construction costs that will persist at least in the medium term – a boom in real estate development demand because of the need for more houses in Germany’s major cities; capacity constraints particularly due to the limited supply of skilled workers, and the higher cost of meeting increasingly strict construction standards,” says Scope analyst Denis Kuhn.

“However, these supply constraints should help guard against any sudden crash in house prices or decline in rents, as the number of new buildings available is quite simply limited, with a significant backlog of demand.”

While the number of building permits for new dwellings has been steadily increasing for almost 10 years, hitting its highest level since 2008 in 2016, signs of a moderation in output are emerging. Figures from the Federal Statistics Office show that construction of 348,100 dwellings was permitted in 2017, a drop of 7.3% from 2016. In January 2018, the number of permits granted fell 2.5% from December.

Although the Bundesbank said in its February 2018 Monthly Report that urban house prices continue to run well above the level that would appear justified in terms of the longer-term economic and demographic determinants – and in some cases are overvalued by as much as 30% – it has acknowledged that the high cost of expanding available land is a major constraint on increasing the housing stock and a key factor in price inflation.

Germany’s central bank cited provisional data from the Federal Statistical Office as showing the price of building plots jumped by around 12% in the first half of 2017. The increase in 2016 was already significantly higher than the average annual gain in 2010-2015.

“While the Bundesbank says that current house prices are unjustified, Scope believes that the sector is not in a bubble because of robust fundamental demand for residential living space coming up against persistent supply constraints. As long as these continue – and they look likely to do so for some time– and interest rates remain relatively low, then excess demand will support prices,” says Kuhn.