Residential property prices and bank lending in Switzerland

Residential real estate is a cornerstone of Switzerland’s economy, representing a significant share of households’ wealth and a substantial portion of bank assets. The dynamics between residential property prices and bank lending are crucial to Switzerland’s financial stability due to its role as both a primary asset class for households and a critical area of exposure for financial institutions. This way, understanding how fluctuations in property prices influence banking performance and financial health is crucial for stakeholders across the Swiss financial system. This thesis investigates the relationship between residential property prices, interest rates, and banking performance with the use of three hypotheses. While the first hypothesis examines the relationship between interest rates, residential property prices, and mortgage lending; hypotheses two and three focus on the effects of changes in residential property prices on banking profitability and risk metrics. To address these topics, the current study employs a mix of econometric models. A vector autoregressive model is used in Hypothesis 1 to analyse intertemporal relationships between interest rates, property prices, and mortgage lending assessing the interactions at lags of 1, 3, and 6 quarters. Hypotheses 2 and 3 utilise fixed-effects panel data models to understand the implications of property price variations for Swiss banks while capturing bank-specific characteristics over time and controlling for macroeconomic factors such as inflation and GDP growth. This thesis’s findings partially confirm the hypothesised relationships. Results for Hypothesis 1 show that sustained low interest rates significantly increase residential property prices and mortgage lending volumes in Switzerland. The result aligns with existing literature and points out the important role of Swiss and European monetary policies in influencing the Swiss real estate market. Hypothesis 2 reveals a positive correlation between residential property prices and bank profitability, particularly after the Great Financial Crisis. The findings of Hypothesis 3 contradict the expected results as rising property prices were associated with increased banking risks, highlighting the importance of regulatory oversight to prevent potential adverse effects of risky lending practices. This research contributes to the study of the role of bank lending and interest rates on residential real estate trends, providing a foundation for future studies in the field.