Changing integration of EMU public property markets

Abstract

This paper examines the impact of the European Monetary Union (EMU) on European public property market integration. Results indicate that the property markets are long-run independent and show little evidence of short-run relationships prior to the formation of the EMU. However, the degree of interdependence and the extent of convergence among the largest property markets have intensified substantially after the launch of the Euro as the common currency in January, 1999. Moreover, each of the property markets under consideration is endogenous in that none is found to “dominate” the others toward long-run equilibrium. Short-run results indicate substantial interrelationships among the markets after the adoption of the Euro. Finally, the study shows that stock markets, bond markets, and public property markets follow similar convergence patterns.

Introduction

The degree to which international capital markets have become interrelated has long been a source of intrigue and interest to academics and practitioners alike (Koutmos and Booth, 1995, Booth et al., 1996, Booth et al., 1997, Kim et al., 2006a, Kim et al., 2006b, Alexakis, 2010). The financial markets in the Euro-zone are especially appealing to study, because of the ongoing changes brought about by the economic and monetary unification process. Several studies have examined the impact of the European Monetary Union (EMU) on stock market and bond market linkages (Haug et al., 2000, Syriopoulos, 2006, Morelli, 2010, Demian, 2011), and most of these studies suggest that the EMU has significantly increased the degree of interdependence among member countries’ equity and bond markets. Authors such as Holmes and Maghrebi, 2008, Lein et al. (2008) and Arghyrou et al. (2009) contend that these increasing dynamic interrelationships may be attributed primarily to economic convergence stimulated by the monetary and economic policy rules and criteria imposed by the Maastricht Treaty.

Most of the studies, have focused largely on equity markets and bond markets with little attention given to European public property markets. Specifically this paper analyzes the impact of the EMU (hereafter “EMU” is used to indicate implementation of the Euro in January of 1999) on European property market integration. In essence, it compares the dynamic interaction among the securitized property markets of six major EMU economies prior to and after the formation of the EMU and evaluates the changing extent of convergence among these markets. Evidence suggests that property markets tend to be affected by the same macroeconomic fundamentals that drive equities and bonds (McCue and Kling, 1994), hence, it is hypothesized that the degree of interdependence among the property stock markets within the Euro-zone has increased since the formation of the EMU and the launch of the common currency in January, 1999.²

This study makes important contributions to existing literature. It utilizes robust methodologies for a relatively long period of time (January 1990 to December 2007) to analyze and compare long-run interdependent relationships and short-run linkages among major EMU member property markets prior to and after the establishment of the EMU. Using recursive cointegration introduced by Hansen and Johansen (1999), it examines whether EMU member property markets have become increasingly convergent with the passage of time and especially after the adoption of the Euro in January, 1999.

Also, following Phylaktis and Ravazzolo (2005) the study examines whether one or more of the property markets can be regarded as primary “drivers” that dominate the other markets and binds them in long-run equilibrium relation(s). Next, it examines whether short-run causal relationships changed after formation of the EMU. And finally, the study analyzes whether the convergence pattern of European public property markets resembles those of the general stock markets or bond markets.

By focusing explicitly on the changing level of integration among the public property markets of major EMU economies, before and after the adoption of the Euro, this paper extends the work by authors such as Wilson and Okunev (1996), Wilson and Zurbruegg (2001), and Yunus (2009) who had examined the impact of globalization on the integration among major securitized property markets. Moreover, by examining the convergence pattern of the securitized property markets in comparison to those of the general equity markets and bond markets, this paper extends studies by Lizieri et al. (2002) and Yang et al. (2005) who had focused solely on the dynamic interactions among the real estate markets of major EMU economies. Further, by implementing robust econometric techniques and several relatively new diagnostic tests, the current study substantially improves on prior work that had evaluated interrelationships among the property markets of selected EMU economies.

The study offers some important implications. If the degree of integration among the property markets has intensified over time, and especially after the establishment of the EMU, such findings imply that the markets may be (increasingly) affected by the same economic stimuli, such that shocks to one market are easily propagated to other markets. This suggests that elimination of internal exchange rate risk as well as monetary and economic policy convergence have played a role in the increased property integration, reducing diversification benefits from investing in different major Euro member countries’ property markets. Thus the findings will be beneficial to investors interested in allocating portfolio assets within the European securitized property sector and to EMU policymakers concerned with real property pricing in making better informed economic policy decisions.

The remainder of the paper is organized as follows: Section 2 presents a relevant literature review; Section 3 sets forth a brief description of the data; Section 4 discusses the methodology; Section 5 examines empirical results; and, finally, Section 6 contains concluding remarks.