Leslie Crawford and Ralph Atkins/ Financial Times

Spain's gravity-defying construction sector continued to drive the economy in the first quarter of the year, helping gross domestic product growth accelerate to 3.3 per cent from 3.2 per cent in the final quarter of 2004.

The performance far outstripped other European countries' lacklustre economies in the first-quarter, but Spain's prolonged property boom is beginning to puzzle - if not worry - economists.

In theory, supply should now be outstripping demand, with a record 700,000 new housing starts last year - more than the combined total of France, Germany and the Benelux countries.

But neither house prices nor mortgage lending - up 24 per cent in the first quarter - show signs of easing.

Instead, the construction sector confounded most forecasts by picking up the pace of activity in the first quarter. It grew 6.1 per cent year-on-year, its strongest performance since mid-2003, the national statistics institute said yesterday.

According to the Bank of Spain's recent quarterly report on the economy, house prices are "distancing themselves from long-term fundamentals". Household debt is at record levels and overtook disposable income for the first time last year. Although few families are defaulting on their mortgages, the Bank of Spain warns that banks are "more vulnerable to adverse disturbances in family incomes or wealth".

The risk of a property crash in Spain is beginning to worry the rest of Europe.

Erkki Liikanen, a member of the European Central Bank's governing council, is concerned about the sustainability of house price rises in some eurozone countries.

"This is one of the issues that must be analysed. When you have had a long period of low interest rates and long maturities, it is important that people take into account the possibility of higher interest rate levels," he told the Financial Times recently.

Jordi Canals, dean of the IESE business school in Barcelona, warned that the entire economy would feel the impact of a rise in euro interest rates. "It is not difficult to envisage a scenario in which Spain's economic growth is wiped out."

Meanwhile Jacques Cailloux, an economist at JP Morgan, advised: "The big question is how you adjust after a boom - with a bust or a soft landing."

Economists suggest there are factors limiting the risks of Spain's property price bubble. Employment is still growing strongly; Spain generates some 500,000 new jobs a year - about half the EU total.

The availability of cheap, long-term credit, unavailable before Spain joined the euro, is another factor driving demand.

Immigration may also be part of the reason. Spain's population has been swollen by 10 per cent by the arrival of almost 4m foreigners in the past five years. According to Mr Canals: "Immigrants are beginning to generate demand at the bottom rung of the housing market, and this is producing a domino effect all the way up the ladder."

Economic sectors show strong business confidence, offsetting concerns. Investment in capital goods rose 10.5 per cent year-on-year, and imports of capital goods rose 14.4 per cent. The government believes businesses are investing more for improved productivity.