Why?

Germany is still in the throes of economic malaise. The recession there was longer and deeper than expected. Chancellor Kohl’s government had been counting on West German industry to take the lead in reinvigorating the former communist zone. But German companies, like American companies, are focusing on using excess plants more efficiently before they build new ones. And, if they were to build, many would favor Eastern Europe, Germany’s Mexico, over high wage, low-productivity East Germany.

In 1990, we reported that the dollar was at an all time low vis a vis the DM and we recommended that holders of restitution properties sell immediately. Today, the U.S. dollar is the highest it has been in a decade. This means that the seller gets a much less favorable exchange rate since payment is effected in DM. This means that those who did not sell, lost 20% of their market value.

This and political events have greatly depressed prices of residential and commercial properties in Eastern Germany. With the recession in Europe, with the unanticipated huge costs of absorbing the new Federal states and populations, and the poor condition of the real estate stock, potential investors reevaluated and readjusted their portfolios. As a result, the pace of investment slowed in new commercial and residential projects, and prices have stabilized for the long term, at the lowest end of the market.

One of the reasons for this downturn has been the establishment of rent control laws. In those areas, tenants pay an average of DM 4.10 per square meter. This is substantially lower than the rental fees in the West German market. In many cases, the rental income on a property in the East does not warrant further investments to improve it, although the state will certainly force the owner to make them.

Until living standards in the East are improved, it is doubtful that rental income and rental property values in the East will increase. There are additional risks involved when holding on to property. If an owner of a restituted property decides not to sell, the government holds him financially responsible and will force him to make renovations mandated by the Local Housing Authority. In most cases, the cost of those renovations will be substantially higher than the rental income from the properties themselves. The return on the investment is miniscule, since rents can only be increased by a factor of 10 — 15% (depending on the size and scope of the investment) and no more.

Government Regulations...