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Mark Carney confirms European regulators are ‘monitoring’ CRE markets as risks to financial stability increase

Mark Carney, the governor of the Bank of England, has said European regulators are monitoring commercial real estate markets as risks from the sector to broader financial stability increase.

In an address yesterday afternoon to the European Parliament’s committee on Economic and Monetary Affairs (ECON), Carney noted that “commercial real estate (CRE) valuations have moved quite notably in a number of jurisdictions”.

Carney, speaking in his capacity as first vice chair of the European Systemic Risk Board (ESRB), said: “The degree of leverage in the [UK] system and the leveraged exposure of UK-based institutions has not moved in tandem with those valuations. In other words, there has been a lot of foreign equity that has come into the market.

“We are watching some developments, including the developments in effectively the publicly traded commercial real estate markets – the unit trust market for real estate – to ensure that is not a potential amplification channel of financial stability.

“At this stage we are not taking any action in the UK but from an ESRB perspective, monitoring this makes sense.”

The Bank of England’s Financial Stability Report for December 2015 warned that prices in the UK commercial real estate market have risen significantly and the funding of investments is becoming riskier.

Specifically, report noted that the substantial inflows into open-ended funds investing in UK CRE pose risks to UK financial stability.

“These funds now have more assets under management than in 2007 and hold approximately 5% of the total stock of UK commercial property. Open-ended funds offer investors short-term redemptions against large and illiquid property investments.

“During the 2007–08 downturn in the UK CRE market, they experienced sharp outflows, becoming forced sellers of CRE investments and amplifying price falls.”

The BoE’s Financial Policy Committee reported that capital flows continue to be monitored to “assess the extent to which vulnerabilities, such as refinancing risk, may be building, and remains vigilant to the possibility that capital inflows may amplify risks in specific sectors such as commercial real estate”.

Speaking more broadly his address at yesterday’s ECON committee on current macro trend, Carney said: “This is a risk environment that is not unique to the European Union, it the case in United States, it is the case in most advanced economies where there is a general ‘low for long’ interest rate environment. There are slightly different trajectories in monetary policies as we all know.

“In the aftermath of the crisis, when combined with longer term structural forces – such as demographics [and] the reduced capital intensity of investments – the consequence of all of that is that it is likely that interest rates will be materially lower than they have been in the past for a considerable period of time.

“The more that is brought into the price of financial assets, there is a risk, and there continues to be a risk, of excesses building up in certain areas of various economies. All of which puts a premium on active macro-prudential policy.

“The different structures of our economies may mean that those risks manifest themselves in different areas – in some cases in commercial real estate, in others, in residential real estate.”

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