12 Jul 17 Why falling (low) real estate prices are good for India

Newspaper headlines always play up the trend of rising real estate prices. Rapid rises are deemed as positive news, while declines are negative.

real estate pricesRising prices ostensibly signal robust demand, which in turn should trigger supply responses that drive growth and employment. Unfortunately, most of the benefits accrue to developers and investors/speculators.  Owner occupants see a notional gain and feel happy, but most will never realize the cash value in their lifetimes.  The real problem is that rapidly rising prices make housing unaffordable for those who don’t have it (or enough of it).

Essentially, if prices shoot up, the rich get richer and the poor live on the streets.

On the flip side, if prices fall or stagnate, this benefits real buyers who can now afford to purchase.  This also deters investors, and keeps prices subdued.

Typically, bulk of the house value is the embedded cost of real estate. The share of construction cost to total price is small (10-20% in big cities). Aided by the belief that real estate prices will always beat inflation, builders tend to delay projects and lock up land parcels; while investors hoard property.  Needless to say, the black economy is substantially responsible for the hoarding.

The traditional business model for developers has been:

  • Acquire land
  • Develop slowly, let prices appreciate
  • Take advances and start construction
  • Delay construction and sell bit by bit as prices rise
  • Hang on to some properties to gain maximum on price rise


In other words, the entire business model is based on rising real estate prices. When prices appreciate like they did between 2003 and 2011, the gains far outweigh the costs of construction (even with huge overruns). This entire model depends on the holding power of the developer and the assumption that ever-rising prices will bail them out.

Yet, this is damaging the industry, and the economy.

On the one hand, too much real estate is being built for the investor and not the real user.  This results in undue focus on premium homes and a near absolute neglect of low cost housing. And large numbers of these premium properties are lying unsold, or unused – while millions live in slums.

As per the 2011 census, there were 11.1 million vacant houses in urban India.  This was more than half the number of rental homes in urban India, 14% of all urban homes and 59% of the (official) housing shortage in urban India (18.78 million)!  Most of these are locked houses owned by affluent investors.

Talking of stats, estimates of housing shortage are gross underestimates. In all our cities, we have huge populations in slums or sub-standard homes.  A whopping 41% of Indians (more than 100 million) households live in one room houses. This means we have a family of 5 in one room – the bedroom, kitchen, dining room, TV room, are all in one room of maybe 200-250 sq.ft. Forget about privacy,  there is barely place to move!  I would hazard that all these people would rather live in a 2 room or 3 room house.  So demand (at the right price points) is way larger than any estimate I’ve seen.

This is why flat or declining rising prices are essential, so that purchasing power grows faster than price. This is the only sustainable way.

In that context, the weak prices of real estate across major Indian cities since 2011 should be celebrated. Whether it is because of demonetization, the Benami Act, RERA or whatever reason – low prices will drive genuine demand. Indeed, increased off-take of housing loans is a sign that this is already happening.

Henceforth, maybe the media should celebrate falling real estate prices?

Arun Jethmalani

Arun is one of the founders of ValueNotes. Apart from trying to build a high-quality research business, he has spent the last 27 years researching, analyzing, and dissecting companies and industries. He has worked with clients of all shapes and sizes, from all parts of the world – in providing them insights that make a difference to their business.
Prior to ValueNotes, he was an equity analyst/advisor, and wrote extensively on investing – including a column titled “Value for Money” which ran for 10 years in the Sunday edition of the Economic Times. To this day, he remains an avid “value” investor.
He has also been published in several other publications, and is a regular speaker at events related to technology, investing, competitive intelligence, business process management, Internet, etc. See: Valuenotes Events
He has been instrumental in developing a community of research and intelligence professionals in India, and is the founder and current chairman of the SCIP (India) Chapter. Arun holds a B Tech from IIT, Bombay and an MS from Duke University, NC, USA. LinkedIn Profile

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