RIGA - Ober Haus, an international real estate firm that operates in all three Baltic states, released a study Oct. 31 revealing that prices for new and used housing in Riga are between 10 and 15 percent higher than in Tallinn and Vilnius. The reason comes down to optimism about the market's continued growth, a construction sector that lacks the skilled workers necessary to keep up with demand, and the recent legalization of "shadow economy earnings," among other factors.
Irrational Exuberance?
On the 25th floor of Latvia's glossy Hansabank building, the Latvian Real Estate Developers Association (LREDA) sponsored a media round table discussion on Nov. 1 with the title "If, when, and what will the crisis be like in the Latvian real estate and building sectors?"
The head of Hansabank's microeconomic and finance analytical department, Martins Kazaks, described the market as currently being in a positive equilibrium between builder and consumer optimism. He warned, however, that excessive optimism could create an imbalance between the cost of new developments and what they can earn on the market.
But to what extent is optimism on the building side fueled by foreign real estate investment, and the legitimization of Latvia's shadow economy? With the real estate market being so buoyant, it's a great place to invest non-transparent money. Although this issue was mentioned during the round table, Latvia's record amount of mortgage lending and bank profits show that the effects of legitimization are quite minimal.
Riga's high GDP and record inflation since EU accession, along with unlimited availability for foreigners to purchase property (not to mention the fact that rental income is exempt from VAT) continues to lure in foreign investment. So far, the amount of Riga property purchased by non-residents remains unreported, although the National Statistics office told The Baltic Times that they were planning on publishing the information sometime next year.
Why not Vilnius and Tallinn?
The Baltics' record high inflation, which holds all three states back from euro adoption, is especially acute in the construction sector. In Latvia, construction inflation has been driving up prices as a whole. So much so, that builders often find themselves asking for more money from developers as budgets are shattered by rising prices.
Construction prices in Latvia have risen twice as fast as in Estonia or Lithuania. Compared with September 2005, prices have risen by 26.5 percent in Latvia, 10.2 percent in Lithuania, and 11.2 percent in Estonia.
During his presentation, Kazaks pointed out that the housing market had actually stabilized in Lithuania and Estonia. This was accredited to the fact that, unlike in Riga, where people purchase apartments based on architectural renditions of what will be, Vilnius and Tallinn customers buy apartments after they are built, which works as a stabilizing force and also limits market speculation. This stabilization is also reflected by the tendency for builders in Vilnius and Tallinn to focus on mostly commercial structures.
Latvia's Russian language newspaper, Telegraf, wrote wryly about the building capacity of the other Baltic states: "It pays to mention that the apartment markets in Lithuania and Estonia have stabilized, and that their construction companies are flocking like birds to Riga. The result has been an avalanche rise in prices."
According to the Latvian Builders Association, the country's third largest construction company is Merks, a subsidiary of the Estonian Merko Ehitus concern. On Nov. 2, Merks announced plans to develop a new business and residential district on 28 hectares of prime property in Riga's outskirts. The project is projected to cost around half a billion euros.
Lack of legal, able, and efficient workers push up costs
Indeed, cheap flights and EU accession has put Latvia on the map for foreign investment, but to blame foreign investors and companies for skyrocketing building prices would be unfair.
A combination of rising material prices and the nation's shortage of qualified workers are the more likely reasons, construction experts said during the round table. Brigades of "under the table" private construction workers, Latvia's massive outflow of laborers to richer EU countries, and its lack of qualified building engineers were all mentioned as significant factors.
"Go to any private home building site in Latvia and you will find brigades of illegal workers building the houses," said Vilnis Bremanis, head of the construction firm Libanaons. Such workers, he claimed, cost three times less than their legal counterparts, which makes labor costs even higher for firms that pay Latvia's required taxes.
Meanwhile, much has been said about the outflow of workers to Ireland and the U.K.. Bremanis, for one, blames the media.
"You have Latvian TV and the press continuously reporting about workers leaving Latvia for higher pay. This tells workers 'Go to Ireland, there they pay well' when the reality is that pay in Latvia has risen and you can earn just as much working here," he said during the Nov. 1 conference.
However, even if every Latvian on a Dublin construction site returned to Riga tomorrow, it would not do much to solve the Baltic state's lack of qualified construction workers.
"We have about five years before Latvian workers gain the training and experience that's needed. We have to turn investors away due to the lack of engineers and skilled workers," said Dudzis Putnins, general director of the Re&Re construction company, one of Latvia's largest.
"This country has a pool of highly paid, under-trained engineers swimming around like carp in a pond. What we need to do is throw a pike into that pond and stir things up a bit," Putnins told The Baltic Times.
The general director has advocated that the state allow foreign qualified building engineers to legally work for a limited time, until the quality of local professionals reaches an acceptable level.
When asked where these workers might come from, he sighed. "We have already tried engineers from Ukraine and Poland but they have not worked out," Putnins said.
The reality is that the whole region, including Russia, is experiencing their own building boom, making it less likely that their best and brightest will relocate to Riga.
According to Putnins, a normally trained worker can earn up to 500 lats (719 euros) a month after taxes, which for Riga is a good wage. However, the Baltic state's construction worker efficiency is estimated around 47 percent, and it will take education and experience - not high wages - for the sector to realize its potential.
In the end, it seems that optimism will continue, only to eventually be brought down by its lack of muscle. What's more, current inflation is not likely to produce quality buildings, which the market desires; the set time frame just doesn't allow for it. o
