After a brief break, I am back to writing on by favourite topic of real estate. In The Daily Reckoning edition published on January 22, 2015, I had discussed the job creating potential of real estate.
The construction sector benefits tremendously if the real estate sector is doing well and creates a huge number of semi-skilled jobs. This works the other way round as well. When the real estate sector is not doing well, there are not enough jobs going around in the construction sector.
And this is precisely what seems to be happening. A Reuters news-report points out that “more than half a million workers let go from sites around India’s capital in the last 18 months.” In fact, many labourers who work on construction sites in Delhi are migrant labourers who essentially come from the poorer states of Uttar Pradesh, Bihar and Jharkhand.
As the Reuters reports: “In Patna, the state capital, eight out of 20 labourers contacted by Reuters had this year made the 1,000 kilometre (600 mile) trip back from Delhi because they could not find work – pressuring salaries in a region where wages are already low.”
What is happening here? The real estate consultant Knight Frank in a recent research report had pointed out that there were around 7 lakh unsold homes in eight cities (Delhi-NCR, Mumbai Metropolitan Region, Bengaluru, Pune, Kolkata, Chennai, Hyderabad and Ahmedabad).
“Current unsold inventory levels stand at over 7 lakh units; would take over 3 years to exhaust,” the report pointed out. Liases Foras, another property consultant, puts the inventory in the major cities as of the end of June 2015, a little higher at 41 months, up 24% from last year.
Given the fact that homes are not selling, new launches have declined by 40% to 95,400 units during the first six months of 2015.
And this possibly explains why there is a job crisis in the construction sector. When real estate companies are not able to sell what they have already built, there is no point in continuing to build new homes. With new homes not being built at the same rate as they were in the past, the total amount of construction has come down dramatically, leading to a job crisis in the sector.
How can this disconnect be corrected? How can jobs be created in the construction industry that services the real estate sector? For this to happen new homes need to be built, only then can construction jobs come back in the real estate industry.
For new homes to be built, the unsold homes in the eight big cities and all over the remaining part of the country need to be first sold. And for that to happen prices need to come down so that homes become affordable. A major reason why homes are not selling right now is because they are exorbitantly priced and way beyond what most people can afford.
The real estate companies are not willing to accept this and cut prices. In a recent press release, the real estate lobby, the Confederation of Real Estate Developers Association of India (CREDAI) said: “it would be prudent to say that from the developers side a substantial reduction in prices has already happened across the country and any further decrease in sale prices would be a deterrent for the growth of a sector that contributes so much to the economy and employment at large.”
The real estate lobby feels that home prices cannot be cut because input prices have risen over the last few years. CREDAI President Geetamber Anand told PTI that “housing prices have gone down by 15-20 per cent on an average in last two years across India, while input costs have risen by 15-20 per cent.”
A similar feeling was echoed by Knight Frank Chairman Shishir Baijal who told the Business Standard that: “Input costs, including that of land, have gone up over the past few years. There is no scope for a serious correction in prices.”
Input costs may have risen, but is that a good enough reason for not cutting prices? The real estate companies may as well continue building homes at prices, which no one will buy. At the end of the day any product has to be priced at a level which the end consumer is willing to pay. This is a basic way in which any business works.
This logic did not apply to the real estate sector up until now because there was massive investor demand. This included people who had black money to park as well as others who were taking on home loans to invest in second and third homes. With returns from real estate more or less remaining flat over the last couple of years, the number of buyers in this category has come down dramatically. The Reuters story referred to earlier points out: “A law to clamp down on “black money” flows that fund as much as a third of real estate deals is further squeezing demand.”
I really don’t know where Reuters got hold of the one-third ratio, but there is enough anecdotal evidence to suggest that investor money coming into the sector has come down dramatically. The real estate consultants have also made this point. Given this, the only prospective buyers left in the market are those who want a home to live-in and they are in no position to pay the kind of money the real estate industry wants them to.
So, as I keep saying, the real estate sector is not going to revive without a massive price cut. Having said that, the CREDAI had an intelligent suggestion to make for once as well. The real estate lobby said in a press release that: “The onus is now upon the state government to rationalise taxes, ready reckoner rates and streamline the approval process to bring down property prices and provide relief to home buyers.”
In many parts of the country real estate transactions are not happening simply because the circle rates are higher than the prevailing market price of real estate. And this has led to the transactions in the real estate market coming to a complete standstill. People are not buying and selling homes because of this.
The area where real estate is bought or sold has a circle rate decided by the state government. The circle rate is the minimum value at which the actual transfer of a property between a seller and a buyer should take place. Hence, the buyer of the property pays stamp duty to the state government on the circle rate.
This is something that the state governments can correct by bringing down circle rates. But the question is will they do that? And if yes, how quickly?
The column originally appeared on The Daily Reckoning on Aug 28, 2015