After two consecutive quarters of negative GDP growth (2nd and 3rd quarters, 2008), the Eurozone has entered into recession. Perspectives for 2009 are of a larger contraction of economy in the Old World.

European Economy

GDP Growth

Economic conditions in Europe have been notably deteriorating during the last months, to a large extent due to the worsening of the financial crisis. In the Eurozone, a negative growth of the GDP was registered during the 2nd and 3rd quarters, thus allowing this region to enter into the first recession as of its creation.

Currently, most of the large Western Europe economies are expected to contract during 2009, before starting to recover gradually during 2010. OECD economic forecasts for November suggest that Ireland, the United Kingdom, Spain and Germany shall be included within those countries registering a deeper fall of GDP during 2009.
 
         
 

Types of interest

A series of trims applied to the different types of interest rates by the European Central Bank gave place to a decrease of the main types of credit from 4.25% in October to 2.50% in December. Likewise, both the United Kingdom Bank and the Sweden Riksbank considerably trimmed the types of interest rates, because the need to foster the weak economy became the cause of concern of the central banks, leaving aside the increasing inflation.

There is still a relevant difference between the types of interbank credits and the type of interest rates of ECB policies, although this difference has been shortening. After reaching a rate higher than 5.3% during the weeks following the Lehman Brothers fall in September, 3 months Euribor rate decreased up to 3.2% in December.

Inflation

Inflation in the Eurozone decreased abruptly since the moment when it reached its 4% maximal peak at mid-2008, being at 2.1% in November. Considering the reduction of energy costs and the decrease of economic activity, it is expected that inflationary pressures be reduced even more during 2009, to such an extent that the possibility of a deflation is now a threat appearing in the horizon.

Labour market

Global weakness of economy started to affect the labour market. Unemployment rates in the Eurozone have increased as of March, reaching 7.7% in October. The European Commission forecasts that the employment growth in the Eurozone was 0.9% in 2008 and shall decrease to 0.5% in 2009.

Consumer sales

Consumer sales figures in Europe decreased during the second half of 2008, thus reflecting the fragility of the consumers’ confidence within the deep economic uncertainty and the increase of unsteadiness in the labour market. In November, consumers’ confidence indicator of the European Commission reached its lowest level as of 1993.

Stock Exchange markets. The price of stocks in Europe has suffered a period of extraordinary volatility. In October and November, deep increases and decreases were registered on a single day, and from that moment on, a general decreasing trend was observed in markets. At the end of November, London FTSE and Frankfurt DAX indexes had decreased in comparison to the beginning of the year 34% and 42% respectively. Real estate securities continued with a similar trend in the global market, with the Eurofist 300 FTSE Real Estate Index showing a fall near to 44% during the first eleven months of 2008.

Lease and rent markets

The demand of offices has decreased in Europe, while the present economic and financial uncertainty destroys the employment plans and the needs of space for the companies, particularly in the financial sector. However, there are significant variations in the form in which the principal markets have been affected by the present crisis.

Offices’ markets in London and Madrid are among the worst affected by the weak demand. The demand absorbed in Central London decreased to approximately 35% during the first three quarters of 2008, in comparison to the first period of 2007.

Paris market was affected less seriously, though the demand absorbed decreased 10% during the first nine months of the year. On the contrary, during 2008, an improvement of the demand absorbed in some markets of Central and Eastern Europe was observed, among them in Prague and Warsaw. At the end of the 3rd quarter, the demand absorbed in Prague was higher than the total figure for 2007.

Unemployment rates have started to increase in most of the main European offices’ markets, not only in those markets experiencing a slow-down of the lease and rent activity, but also in those with a large number of new spaces to offer. For example, the number of offices available at Moscow has actually increased, while the limitation of the offer has decreased with the appearance of new buildings in the market.

Most of the office markets seem to have reached, or in other cases seem to have surpassed, the peak of the present lease and rent cycle. In the year 2008, a moderate increase was observed in the growth of leases in some of the principal markets in Germany and Central and Eastern Europe, though the lease agreements of prime offices started to decrease in a series of cities, among which there are London, Dublin and Moscow.

The lease and rent market forecast for 2009 is really gloomy. The last IPF European Consensus Forecasts suggest that prime offices lease agreements shall decrease in 24 of the 30 analyzed cities, and that an increase shall only be observed in the markets of Prague, Warsaw and Munich. IPF forecasts that the deepest falls in lease agreements shall take place in London, Dublin, Madrid, Barcelona and Oslo.

The retail sector is each time suffering more pressure. Consumers expenses have deteriorated and many of the large retail chains are bankrupted. Probably, lease agreements shall suffer a falling pressure in 2009, since tenants shall not be willing to accept an increase of the lease payment and shall try to negotiate more favorable conditions, considering the difficult conditions of the market. Notwithstanding, the demand for retail prime business units shall be relatively stable, secondary positions may be particularly vulnerable to the weak demand of this type of spaces.

The demand for industrial business units has started to suffer the consequences of the exports and manufacturing decreases. Industrial lease agreements have started to decrease in many Western Europe markets, but they seem to show more strength in the large markets of Central and Eastern Europe.

Investment markets

The financial crisis continued seriously limiting the activity of capital markets.
Preliminary estimates of Real Capital Analytics consider that the decrease in the volume of commercial real estate transactions during 2008 was 51% in Europe, compared with 2007, with minimal decreases of 60% in United Kingdom, French and Germany.

The number of investors intending to purchase commercial property in Europe has decreased remarkably. German open funds, representing the last large active group of investors, abandoned the market in October, once the institutional investors withdrew millions of euros from the funds. There are also signs that the wealthy funds of the Near East, previously considered as one of the scarce sources with liquid capital, are not more interested in Western securities, but decided to support the staggering economies of their own countries.

Profitability margins corrections still take place, increasing the rhythm of a series of markets during the second half of the year. Prime offices profitability margins in Madrid are currently near 250 basis points over the lowest level reached in the market's peak in 2007, while in Paris they weakened to near 175 basis points. Prime profitability margins in the main markets of Central and Eastern Europe, which resisted any important correction, increased notoriously during the second half of 2008.

The lack of activity associated to German funds contributed to an acceleration of profitability movements, since those funds represented one of the last categories of investors ready to negotiate with relatively low profitability.

During the next months, there will be more corrections which might contribute with profitability margins to reach tempting levels attracting opportunist investors into the market. Although it is probable that there would be an excess of assets with problems in the market, it could also be anticipated that opportunist investors shall try to take advantage of the increase number of forced sales during 2009.

IPD rates show the new and drastic way of fixing property prices for English and Irish commercial property, with a decrease in the capital value which gave place to a decrease of total profitability margins of 21.2% in Ireland and of 10.5% in the United Kingdom during the first three quarters of 2008. The results in Continental Europe are showing a similar trend, for example, the last six-months IPD index for France shows a decrease of capital values, with a profitability margin of only 0.6% in the first half of 2008, in comparison to the annual figure of 17.8% registered in 2007,

Thanks to Knight Frank – Spain, for the contents of this report.