## Residential Property Price Developments and (Mis)alignments in Cyprus

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**Canonical URL:** [Residential Property Price Developments and (Mis)alignments in Cyprus](https://www.imf.org/-/media/files/publications/selected-issues-papers/2023/english/sipea2023043.pdf)

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---

### Introduction
- Residential property prices rose sharply before Cyprus joined the euro area; the price surge from 2006 until 2008 was among the highest in the euro area.
- After a strong decline in foreign demand due to the global financial crisis, rising local demand and credit growth kept prices from falling much until 2012.
- Prices corrected after the 2012–2013 Cypriot financial crisis:
  - In 2015, sales amounted to only around a fifth of the peak in 2007.
  - By 2015, house prices had fallen by around a third.
- Prices started recovering after 2015 as foreign demand (initially driven by the Citizenship by Investment Program (CIP)) and domestic mortgage lending picked up; housing construction growth also resumed.
- After a slowdown in 2020 (COVID-19, termination of CIP), prices accelerated again due to:
  - Sharp increase in foreign demand attributed to relocation of foreign businesses and employees (especially ICT sector) and war-related immigration from Russia and Ukraine.
  - Construction costs increased, reflecting supply bottlenecks.
- Tightening financial conditions and the cost-of-living crisis cooled domestic demand; new lending for housing has slowed, while most mortgages are at variable interest rates, increasing vulnerability to rising interest rates.
- Four guiding questions addressed:
  - Are residential house prices misaligned and how do they compare internationally?
  - How will rising interest rates impact affordability and price valuations?
  - Are local price developments a reason for concern?
  - What should policy makers do?

### House Price (Mis)alignments
- Key findings:
  - Standard affordability and valuation indicators show no signs of overvaluation:
    - Price-to-Income Ratio (PIR) and Price-to-Rent Ratio (PRR) peaked in 2008 and have since declined, remaining at or below long-time averages and below post-financial-crisis averages.
  - Cross-country comparisons (over 50 countries, 2022Q2) using PIRs and deviations from predictions of a cross-country OLS regression model of fundamentals indicate Cyprus is not among countries with overvalued house prices.

### Debt Vulnerabilities and Rising Interest Rates
- Findings on debt and vulnerability:
  - Housing debt dynamics differ from the pre-crisis twin boom:
    - Cyprus experienced a twin boom in 2007 with growth of residential prices and credit accelerating by more than two standard deviations and subsequent collapse after 2012–13.
  - Household credit has been shrinking in recent years as households deleveraged; credit developments do not appear to have contributed to unwarranted housing price growth.
- Risk indicators under stress:
  - Definition of overburdened households (Topalova et al. 2023): mortgage payments and essential consumption (food, utilities) exceed 70 percent of gross income.
  - Results suggest more than half of households holding a mortgage could now become overburdened; these mortgages account for about 70 percent of total mortgage debt.
  - Overburdened households are concentrated at the lower end of the income distribution; default probabilities increase markedly for lower income quintiles.
  - The impact depends on resolution of legacy NPLs and how collateral is disposed of by banks and credit acquiring companies (CACs).

### A Regional Perspective
- Limassol divergence and drivers:
  - Limassol has diverged from other regions since 2016; prices in Limassol decoupled and outperformed other areas.
  - Price growth in Limassol did not slow after the termination of CIP in November 2020.
  - After Russia’s invasion of Ukraine, prices in Limassol accelerated, reaching 15 percent in nominal terms since 2019Q1.
  - Foreign demand in Limassol rose by about30 percent from 2019Q1 to 2022Q4—likely driven by immigration from Russia and Ukraine and ICT sector inflows.
- Affordability and rents by region:
  - PIRs from Numbeo (2023) indicate the PIR in Limassol was around a fifth higher than in Nicosia and around a third higher than in Larnaca, Paphos, and Famagusta.
  - Cross-country comparisons show cities in Cyprus remain relatively affordable: PIRs in Thessaloniki and Athens are around twice as high; PIRs in Tel Aviv, Valletta (Malta), and Beirut are even higher.
  - Time series of PRRs are below long-term averages in all areas, including Limassol.
  - Rents show larger regional disparity:
    - The rent-to-income ratio in Limassol is a fourth higher than in Larnaca, a third higher than in Paphos, and a half higher than in Nicosia.
  - From a rental affordability perspective, areas of concern are Limassol and, to a lesser extent, Larnaca.

### Conclusion and Recommendations
- Conclusions:
  - Multiple indicators suggest housing prices are not deviating from fundamentals and the risk of a large housing market correction seems low, especially if foreign demand continues.
  - Risks persist due to high private debt levels, a high share of variable-rate mortgages, vulnerable households, and potential impacts of financial tightening on credit quality and collateral values.
- Policy recommendations:
  - Enhance monitoring of credit quality and collateral revaluation risks given high private debt levels.
  - Advance decisively the resolution of legacy NPLs, supported by:
    - Unperturbed implementation of the foreclosure framework, and
    - The planned Mortgage-To-Rent scheme to help resolve NPLs from vulnerable borrowers.
  - Consider macroprudential responses if concerns intensify in specific segments (example: recent tightening of the Loan-to-Value ratio for luxurious properties).
  - Supply-side measures to address affordability constraints, especially in Limassol, such as:
    - Reinstating the immovable property tax (IMF 2021), which evidence suggests reduces prices in the short- and long-run in OECD countries, or
    - Strategic rezoning to support housing supply and new construction.

### Annex: A Global OLS Model for International Comparison (methodology notes)
- Benchmark regression (estimated at country level; estimation period varies by data availability) models growth rates of housing prices as a function of multiple fundamentals and dummies; housing affordability is measured as ratio of housing prices to disposable income or to GDP per capita where disposable income is unavailable.
- For level predictions, the model transforms growth-rate estimates into price levels by using house prices from 2014 to 2018 as alternative base years and averaging predictions based on these years.

### Data sources (Section 2)
- Quarterly house price data: BIS.
- Quarterly GDP, GDP per capita, and disposable income: IMF World Economic Outlook.
- Quarterly short-term interest rate: IMF International Financial Statistics.
- Annual working age population: IMF World Economic Outlook.
- Quarterly non-financial private sector credit: BIS.

### Prediction model specification for Cyprus (Section 2)
- Conventional levels of statistical significance: *** p<0.01, ** p<0.05, * p<0.1.
- Estimated prediction model (as presented):
  - 퐻퐻퐻퐻퐻퐻퐻퐻퐻퐻 푝푝푝푝푝푝푝푝퐻퐻 푔푔푝푝퐻퐻 푔푔푔푔 ℎ
    푔푔
    =0.395*** - 0.087***  푎푎푎푎푎푎 퐻퐻푝푝 푎푎푎푎푎푎 푝푝푎푎푝푝푔푔 푎푎
    푔푔−1 
    + 0.410** 푝푝푖푖푝푝퐻퐻 푖푖퐻퐻 푔푔푝푝퐻퐻 푔푔푔푔 ℎ
    푔푔 
    + 0.067* 
    푝푝푝푝퐻퐻푎푎푝푝푔푔 푔푔푝푝퐻퐻 푔푔푔푔 ℎ
    푔푔 
    + 0.367* po푝푝퐻퐻푎푎푎푎푔푔 푝푝퐻퐻푖푖 푔푔푝푝퐻퐻 푔푔푔푔 ℎ
    푔푔 
    + 0.027*** 푔푔푎푎퐻퐻푎푎푎푎푎푎 푎푎푝푝푖푖푎푎푖푖푝푝푝푝푎푎푎푎 푝푝푝푝푝푝 퐻퐻푝푝퐻퐻 time dummy  - 0.002
    퐶퐶퐶퐶퐶퐶퐶퐶퐶퐶 dummy  – 0.551** COVID dummy X 푝푝푖푖푝푝퐻퐻 푖푖퐻퐻 푔푔푝푝퐻퐻 푔푔푔푔 ℎ
    푔푔
     +휖휖
    푔푔 .
- Note: coefficients and variable labels are reproduced exactly as presented in the source.

### Estimation results and interpretation (Section 2)
- Intercept: 0.395***.
- Lagged house-price-related coefficient: -0.087***.
- Interest-rate-related coefficient: 0.410**.
- Income/related coefficient: 0.067*.
- Population-related coefficient: 0.367* (noting the label "po푝푝퐻퐻푎푎푎푎푔푔" as presented).
- Time dummy coefficient: 0.027***.
- Additional time dummy term: -0.002.
- COVID dummy interaction term: -0.551**.
- Residual term: +휖휖
  푔푔

### Model comparison and out-of-sample prediction for 2022Q2 (Section 2)
- The model predictions from the benchmark model and the model adjusted for Cyprus are very similar.
- For 2022Q2:
  - Deviation from the benchmark prediction: -2.4 percent.
  - Deviation from the model adjusted for Cyprus: -3.6 percent.

*Source: IMF Selected Issues Paper SIP/2023/043 — “Residential Property Price Developments and (Mis)alignments in Cyprus”, completed May 9, 2023.*

### Section 1

### Residential Property Price Developments and (Mis)alignments in Cyprus

### Introduction
- Residential property prices rose sharply before Cyprus joined the euro area; the price surge from 2006 until 2008 was among the highest in the euro area.
- After a strong decline in foreign demand due to the global financial crisis, rising local demand and credit growth kept prices from falling much until 2012.
- Prices corrected after the 2012–2013 Cypriot financial crisis:
  - In 2015, sales amounted to only around a fifth of the peak in 2007.
  - By 2015, house prices had fallen by around a third.
- Prices started recovering after 2015 as foreign demand (initially driven by the Citizenship by Investment Program (CIP)) and domestic mortgage lending picked up; housing construction growth also resumed.
- After a slowdown in 2020 (COVID-19, termination of CIP), prices accelerated again due to:
  - Sharp increase in foreign demand attributed to relocation of foreign businesses and employees (especially ICT sector) and war-related immigration from Russia and Ukraine.
  - Construction costs increased, reflecting supply bottlenecks.
- Tightening financial conditions and the cost-of-living crisis cooled domestic demand; new lending for housing has slowed, while most mortgages are at variable interest rates, increasing vulnerability to rising interest rates.
- Four guiding questions addressed:
  - Are residential house prices misaligned and how do they compare internationally?
  - How will rising interest rates impact affordability and price valuations?
  - Are local price developments a reason for concern?
  - What should policy makers do?

### House Price (Mis)alignments
- Standard affordability and valuation indicators show no signs of overvaluation:
  - Price-to-Income Ratio (PIR) and Price-to-Rent Ratio (PRR) peaked in 2008 and have since declined, remaining at or below long-time averages and below post-financial-crisis averages.
- Cross-country comparisons (over 50 countries, 2022Q2) using:
  - PIRs, and
  - Deviations from predictions of a cross-country OLS regression model of fundamentals,
  indicate Cyprus is not among countries with overvalued house prices.

### Debt Vulnerabilities and Rising Interest Rates
- Housing debt dynamics differ from the pre-crisis twin boom:
  - Cyprus experienced a twin boom in 2007 with growth of residential prices and credit accelerating by more than two standard deviations and subsequent collapse after 2012–13.
  - Household credit has been shrinking in recent years as households deleveraged; credit developments do not appear to have contributed to unwarranted housing price growth.
- Nonetheless, the level of housing debt remains high and poses risks under rising interest rates and the cost-of-living crisis:
  - Definition of overburdened households (Topalova et al. 2023): mortgage payments and essential consumption (food, utilities) exceed 70 percent of gross income.
  - Results suggest more than half of households holding a mortgage could now become overburdened; these mortgages account for about 70 percent of total mortgage debt.
  - Overburdened households are concentrated at the lower end of the income distribution; default probabilities increase markedly for lower income quintiles.
  - The impact depends on resolution of legacy NPLs and how collateral is disposed of by banks and credit acquiring companies (CACs).

### A Regional Perspective
- Limassol has diverged from other regions since 2016:
  - Prices in Limassol decoupled and outperformed other areas; price growth did not slow after the termination of CIP in November 2020.
  - After Russia’s invasion of Ukraine, prices in Limassol accelerated, reaching 15 percent in nominal terms since 2019Q1.
  - Foreign demand in Limassol rose by about30 percent from 2019Q1 to 2022Q4—likely driven by immigration from Russia and Ukraine and ICT sector inflows.
- Local rental and price affordability patterns:
  - PIRs from Numbeo (2023) indicate the PIR in Limassol was around a fifth higher than in Nicosia and around a third higher than in Larnaca, Paphos, and Famagusta.
  - Cross-country comparisons show cities in Cyprus remain relatively affordable: PIRs in Thessaloniki and Athens are around twice as high; PIRs in Tel Aviv, Valletta (Malta), and Beirut are even higher.
  - Time series of PRRs are below long-term averages in all areas, including Limassol.
  - Rents show larger regional disparity:
    - The rent-to-income ratio in Limassol is a fourth higher than in Larnaca, a third higher than in Paphos, and a half higher than in Nicosia.
  - From a rental affordability perspective, areas of concern are Limassol and, to a lesser extent, Larnaca.

### Conclusion and Recommendations
- Key conclusions:
  - Multiple indicators suggest housing prices are not deviating from fundamentals and the risk of a large housing market correction seems low, especially if foreign demand continues.
  - However, risks persist due to high private debt levels, a high share of variable-rate mortgages, vulnerable households, and potential impacts of financial tightening on credit quality and collateral values.
- Recommended policy actions:
  - Enhance monitoring of credit quality and collateral revaluation risks given high private debt levels.
  - Advance decisively the resolution of legacy NPLs, supported by:
    - Unperturbed implementation of the foreclosure framework, and
    - The planned Mortgage-To-Rent scheme to help resolve NPLs from vulnerable borrowers.
  - Consider macroprudential responses if concerns intensify in specific segments (example: recent tightening of the Loan-to-Value ratio for luxurious properties).
  - Supply-side measures to address affordability constraints, especially in Limassol, such as:
    - Reinstating the immovable property tax (IMF 2021), which evidence suggests reduces prices in the short- and long-run in OECD countries, or
    - Strategic rezoning to support housing supply and new construction.

### Annex: A Global OLS Model for International Comparison (methodology notes)
- Benchmark regression (estimated at country level; estimation period varies by data availability) models growth rates of housing prices as a function of multiple fundamentals and dummies; housing affordability is measured as ratio of housing prices to disposable income or to GDP per capita where disposable income is unavailable.
- For level predictions, the model transforms growth-rate estimates into price levels by using house prices from 2014 to 2018 as alternative base years and averaging predictions based on these years.

*Source: IMF Selected Issues Paper SIP/2023/043 — “Residential Property Price Developments and (Mis)alignments in Cyprus”, completed May 9, 2023.*

### Section 2

### sipea2023043 - Section 2

### Data sources
- Quarterly house price data: BIS.
- Quarterly GDP, GDP per capita, and disposable income: IMF World Economic Outlook.
- Quarterly short-term interest rate: IMF International Financial Statistics.
- Annual working age population: IMF World Economic Outlook.
- Quarterly non-financial private sector credit: BIS.

### Prediction model specification for Cyprus
- Conventional levels of statistical significance: *** p<0.01, ** p<0.05, * p<0.1.
- Estimated prediction model (as presented):

퐻퐻퐻퐻퐻퐻퐻퐻퐻퐻 푝푝푝푝푝푝푝푝퐻퐻 푔푔푝푝퐻퐻 푔푔푔푔 ℎ
푔푔
=0.395*** - 0.087***  푎푎푎푎푎푎 퐻퐻푝푝 푎푎푎푎푎푎 푝푝푎푎푝푝푔푔 푎푎
푔푔−1 
+ 0.410** 푝푝푖푖푝푝퐻퐻 푖푖퐻퐻 푔푔푝푝퐻퐻 푔푔푔푔 ℎ
푔푔 
+ 0.067* 
푝푝푝푝퐻퐻푎푎푝푝푔푔 푔푔푝푝퐻퐻 푔푔푔푔 ℎ
푔푔 
+ 0.367* po푝푝퐻퐻푎푎푎푎푔푔 푝푝퐻퐻푖푖 푔푔푝푝퐻퐻 푔푔푔푔 ℎ
푔푔 
+ 0.027*** 푔푔푎푎퐻퐻푎푎푎푎푎푎 푎푎푝푝푖푖푎푎푖푖푝푝푝푝푎푎푎푎 푝푝푝푝푝푝 퐻퐻푝푝퐻퐻 time dummy  - 0.002

퐶퐶퐶퐶퐶퐶퐶퐶퐶퐶 dummy  – 0.551** COVID dummy X 푝푝푖푖푝푝퐻퐻 푖푖퐻퐻 푔푔푝푝퐻퐻 푔푔푔푔 ℎ
푔푔
 +휖휖
푔푔
.

### Estimation results and interpretation
- Intercept: 0.395***.
- Lagged house-price-related coefficient: -0.087***.
- Interest-rate-related coefficient: 0.410**.
- Income/related coefficient: 0.067*.
- Population-related coefficient: 0.367* (noting the label "po푝푝퐻퐻푎푎푎푎푔푔" as presented).
- Time dummy coefficient: 0.027***.
- Additional time dummy term: -0.002.
- COVID dummy interaction term: -0.551**.
- Residual term: +휖휖
푔푔

(Note: coefficients and variable labels are reproduced exactly as presented in the source.)

### Model comparison and out-of-sample prediction for 2022Q2
- The model predictions from the benchmark model and the model adjusted for Cyprus are very similar.
- For 2022Q2:
  - Deviation from the benchmark prediction: -2.4 percent.
  - Deviation from the model adjusted for Cyprus: -3.6 percent.

*Source: sipea2023043 - Section 2*

---


_Source: https://www.imf.org/-/media/files/publications/selected-issues-papers/2023/english/sipea2023043.pdf_