(photo credit: Ariel Jerozolimski)
The Bank of Israel expects the steep rise in property prices over the past two years to moderate over the course of 2010 as the main factors driving the rally are easing.
"Over time there is a link between apartment prices, rentals and the real interest rate. In the short-term, housing prices are influenced by the supply of available apartments, the level of economic activity and fluctuations in the dollar exchange rate," said Bank of Israel economists in their report entitled, "Housing Market - The Price of Housing Services in the Consumer Price Index and Apartment Prices."
They wrote: "A temporary increase in the long-term interest rate and rising unemployment leads to lower demand in apartments and a fall in real prices of apartments. At the same time, though, part of the demand for housing switches to rental housing and thus rental prices rise. On the basis of this analysis we estimate that the rate of increase of apartment prices will ease to a certain extent in 2010."
The Bank of Israel was the first central bank to raise interest rates for September to 0.75 percent.
Last week Bank of Israel Governor Stanley Fischer said that he did not see a bubble developing in Israel's real estate market adding that the central bank was keeping a close eye on property prices and would not wait for a bubble burst.
"Real estate prices have been on the rise recently as interest rates are low," said Fischer. "Demand for property can be expected to come down once interest rates rise. We are keeping a close eye on asset prices."
Since the 1960's until 2000, real housing prices have been on an upward trend. After a downward trend in the first years of the decade during the last recession, prices started to rise sharply from the second half of 2008, mainly due to changes in the shekel-dollar exchange rate, population growth and supply level of apartments, volume of construction starts, and changes in mortgage interest rates.
In recent years, the construction and housing sectors have developed to play a central part of economic activity in Israel. Over the last two years, the construction and building sector comprised 7.3% of business activity and expenses on housing services have grown to more than 20% of household expenses according to figures by the central bank. The housing index is one of the major consumption items in the Consumer Price Index, with a weight of about 21% of the total index.
In the report, the central bank said that the rise in the housing price index over the past two years was due to two major factors: drop in unemployment and increase in the population relative to the supply side of available housing.