Ten Things to Remember While Buying a Home

This piece emerged out of a couple of WhatsApp conversations I had over this weekend, along with a few emails that I have received over the last few months.

From these conversations and in trying to answer the emails, I have tried to develop a sort of checklist of things to keep in mind, while buying a home. Of course, as I have said in the past, when it comes to personal finance, each person’s situation is unique, and which is why it’s called personal finance.

Nevertheless, there are a few general principles that can be kept in mind. Also, this list like all checklists, is complete to the extent of things I can think of.

So, let this not limit your thinking and the points that you need to keep in mind.

Here we go.

1) If you are buying the house as an investment (not in my scheme of things, but nonetheless), please learn how to calculate the internal rate of return on an investment. Believe me, you will thank me for the rest of your life.

Also, keep track of the cost of maintaining a house and other costs that come with it. Only then will you be able to know the real rate of return from investing in a house.

Otherwise, you will talk like others do, I bought it at x and I sold it at 2x, and get lost in the big numbers, thinking you have made huge returns. While this sort of conversation sounds impressive, it doesn’t mean anything.

2) Don’t buy a house to generate a regular income. The home rentals in the bigger cities have come down post covid. Even if they haven’t, the rental yields (rent divided by market price) continue to be lower than what you would earn if you had that money invested in a fixed deposit (despite such low interest rates).

Of course, the corollary here is that as a landlord you choose to declare your rental income and pay an income tax on it. Many landlords prefer to be totally or partially paid in cash and choose not to pay any income tax. 

3) From what I have been able to gather from my conversations, people in a few cities are still flipping houses. In fact, the trick is to invest before a project gets a RERA approval and then sell out as soon as the approval comes through. This reminds me of the old days when the builder never really knew the people who ended up living in the homes that had been built.

Anyway, if you are flipping homes, do remember that many people caught in the real estate shenanigans of 2009 to 2011, are still waiting for their homes. Many of them are investors. So, if you are flipping homes, do take some basic precautions like not betting your life on any one deal. As the old cliche goes, don’t put all your eggs in one basket. 

4) Also, do remember that you are an individual and the builder is a builder. While many stories of David beating the Goliath have come out in the media, many more stories of Goliaths having crushed Davids, never made it to the media.

It was, is and will remain, an unequal fight. Do remember that. For a builder this is the life that he leads, you, dear reader, on the other hand, have many other things to do. And you are looking for a home to live in, not a builder to take on. So, be careful.

5) One question that I often get is, which bank/housing finance company should I take a loan from. I don’t think this should matter much. Most big banks and housing finance companies charge similar interest rates. As we say in Hindi, bus unees bees ka farak hai.

So, go to the financial institution which seems to be the most convenient to you.

6) One story being pushed in the media is that you should buy a home now because interest rates are low. Among many dumb reasons for buying a home, this is by far the dumbest. Interest rates on home loans are not fixed but floating interest rate loans. If the cost of borrowing for banks and housing finance companies goes up, so will the interest rate on floating rate home loans.

No one can predict which way interest rates will go in the medium to long-term (That doesn’t stop people from trying. Many economists build careers around this). So, currently, the interest rate on a home loan is around 7% per year or thereabouts. If you are buying a home, make sure that you have the capacity to keep repaying the EMI even at an interest rate of 10% per year. This is very important.

7) How do you structure the amount you pay for the home? What portion of the home price should be a downpayment? What portion of the home price should be your home loan? These are very important questions. The answer varies from person to person. Nevertheless, the one general principle I would like to state here is that don’t dip into your retirement savings as far as possible to pay for the downpayment.

It might seem like a good idea with retirement far away and your parents encouraging you to do so because they did the same and it worked out fine for them. Nevertheless, do remember that on an average the current generation will live longer than its parents, and the family support that your parents had or will have in their old age, you may never have.

8) Also, from the point of diversification, it makes sense not to bet all your savings on making the downpayment for a home. Do remember, no job or source of income is safe these days. Further, do ensure that at any point of time you have the ability to pay six to 12 EMIs, without having a regular source of income.

Other than being able to continue repaying your EMI, it will also help you have some time to look for a job or another source of income, if the current one goes kaput.  Money in the bank, buys you time, which helps you make better decisions in life.

And most importantly, if your EMI is more than a third of your take home salary or monthly income, rest assured you are in for trouble on the financial front.

9) If you want to buy a home to live in, go for a ready to move in home. I have seen completion dates for RERA approved projects going beyond 2025 in Mumbai.

The other advantage with a ready to move in home is that some people are already living there and if there is some problem with the building (not a huge deal in India) then there are many more people who have a stake in solving the problem (as convoluted as this might sound). As always there is strength in numbers. 

10) Finally, be sure why you are buying a home. You want to live close to your place of work. You want your child to have some stability in life. You don’t like the idea of moving homes, every couple of years. And so on.

But please don’t buy a home because your parents, in-laws, extended family or relatives, expect you to do so and it gives them something to chat up on or some meaning to their lives. These are financially difficult times and making the biggest financial decision of your life to impress others, isn’t the smartest thing to do possibly.

To conclude, as I said in the beginning this isn’t a complete list by any stretch of imagination. Each person’s situation is unique. Also, you may not end up with a tick mark on all these points mentioned above and you may still end up buying a home. But the advantage will be that you will know clearly where you are placed in the financial scheme of things.

The points essentially help you think in a structured way to arrive at a decision. They do not make the decision for you. That you will have to do.

PS: Don’t know if you noticed that the terms house and home, have been used at different places. Hope you appreciate the difference between the two. 

RBI to Print Rs 1 Lakh Crore to Keep Government Happy

After Lehman Brothers, the fourth largest investment bank on Wall Street went bust in September 2008, the Federal Reserve of the United States, the American central bank, came up with three rounds of large-scale asset purchases (LSAP). The LSAP was popularly referred to as quantitative easing or QE.

Yesterday, Shaktikanta Das, the governor of the Reserve Bank of India (RBI) announced a similar sounding GSAP or G-sec acquisition programme, where G-sec stands for government securities. India now has its own planned QE. (At the risk of deviation, it’s not just the Indian film industry which copies the Americans, our central bank also does.)

The government of India issues financial securities known as government securities or government bonds, in order to finance its fiscal deficit or the difference between what it earns and what it spends. Banks, insurance companies, non-banking finance companies, mutual funds and other financial institutions, buy these securities. Some are mandated to do so, others do it out of their own free will. 

What does GSAP entail? Like was the case with the Federal Reserve and the LSAP, the RBI will print money and buy government securities. For the first quarter of 2021-22 (April to June), the RBI has committed to buying government securities worth Rs 1 lakh crore. The first purchase under GSAP of Rs 25,000 crore will happen on April 15, later this month.

Why is this being done? Among other things, the RBI is also the debt manager for the central government. It manages government’s borrowing programme. After borrowing Rs 12.8 lakh crore in 2020-21, the government is expected to borrow another Rs 12.05 lakh crore in 2021-22. Due to the covid-pandemic and a general slowdown in tax revenues over the years, the government has had to borrow more in order to finance its expenditure and the fiscal deficit.

This information of the government having to borrow more than Rs 12 lakh crore again in 2021-22, came to light when the annual budget of the central government was presented on February 1. Due to this higher borrowing, the bond market immediately wanted a higher return from government securities.

The return (or yield to maturity as it is more popularly know) on 10-year government securities as of January 29, had stood at 5.95%. By February 22, the return had jumped to 6.2% or gone up by 25 basis points, in a matter of a few weeks. One basis point is one hundredth of a percentage. 

The yield to maturity on a security is the annual return an investor can expect when he buys a security at a particular price, on a particular day and holds on to it till its maturity.

As the latest monetary policy report of the RBI released yesterday points out: “Yields spiked following the announcement of government borrowings of  Rs12.05 lakh crore for 2021-22 and additional borrowing of Rs 80,000 crore for 2020-21.”

In May 2020, the government had announced that it would borrow a total of Rs 12 lakh crore in 2020-21. When the budget was presented, the government said that it would end up borrowing Rs 12.8 lakh crore or Rs 80,000 crore more. 

At any given point of time, the financial system can only lend a given amount of money. When the demand for money goes up, it is but natural that the return expected by the lenders will also go up. This led to the bond market demanding a higher rate of return on government securities, pushing up the yields or returns on government securities.

How did this become a bother for the government? When the returns on existing government securities go up, the RBI has to offer higher rates of interest on the fresh financial securities that it plans to issue on behalf of the government to fund the fiscal deficit. This pushes up the interest bill of the government, which the government is trying to minimise. 

Government securities are deemed to be the safest form of lending. Once returns on these securities go up, the interest rates in general across the economy tend to go up, which is not something that the RBI wants at this point of time. The hope is that lower interest rates will help the economy revive faster.

As the debt manager of the government, it’s the RBI’s job to offer the best possible deal to its main client. Hence, post the budget, the RBI got into the job quickly and to drive down returns on government securities launched an open market operation (OMO). As the monetary policy report points out: “Yields subsequently eased somewhat on the back of… the OMO purchases for an enhanced amount of Rs 20,000 crore on February 10, 2021.”

In an OMO, the RBI prints money and buys government securities from those institutions who are willing to sell them. The idea here is to pump more money into the financial system and in the process ensure that yields or returns on government securities go down.

With the GSAP, the RBI has just taken this idea forward. While the GSAP is not very different from the OMOs that the RBI carries out, it is more of an upfront commitment and clear communication from the RBI that it will do whatever it takes to ensure that yields on government securities don’t go up. Like between April and June, the RBI plans to print and pump Rs 1 lakh crore into the financial system. 

Let me make a slight deviation here. In this case, the RBI is also indirectly financing the government’s fiscal deficit. As the debt manager for the government, the RBI sells fresh securities to raise money in order to help the government finance its fiscal deficit.

These securities are bought by various financial institutions. When they do this, they have handed over money to the RBI, which credits the government’s account with it. In the process, the financial institutions as a whole have that much lesser money to lend for the long-term.

By printing money and pumping it into the financial system, the RBI ensures that the money that financial institutions have available for lending for the long-term, doesn’t really go down or doesn’t go down as much,

Hence, in that sense, the RBI is actually indirectly financing the government borrowing. (It’s just buying older bonds and not newer ones directly). A reading of business press tells me that the bond market expects more money printing by the RBI during the course of the year. One particular estimate going around is that of more than Rs 3 lakh crore. In that sense, even if the RBI prints Rs 3 lakh crore, it will indirectly finance around a fourth of the government borrowing given that it is scheduled to borrow Rs 12.05 lakh crore in 2021-22. 

Now getting back to the topic. Like in any OMO, while carrying out a GSAP operation, the RBI will print money and buy government securities. In the process, it will put money into the financial system. This will ensure that returns on government securities don’t go up. In the process, the government will end up borrowing at lower rates.

This is how the RBI plans to keeps its main customer happy. It needs to be mentioned here that with the second wave of covid spreading across the country, chances are economic recovery will take a backseat and the government will have trouble raising tax revenues like it did in 2020-21, the last financial year.

This might lead to increased borrowing on the government front. Increased borrowing without the RBI interfering will definitely lead to the bond market demanding higher returns from government securities. With the GSAP, the hope is that yields or returns on government securities will continue to remain low.

It is worth remembering that Shaktikanta Das’ three year term as the RBI Governor comes to an end later this year. Hence, at least until then, it makes sense for Das to keep Delhi happy.

Of course, the money printing leading to lower return on government securities, will also ensure that the interest you, dear reader, earn on your fixed deposits, will continue to remain low, and the real rate of interest after adjusting for the prevailing inflation, will largely be in negative territory. 

As mentioned earlier, lending to the government is deemed to be the safest form of lending. And if that lending can be carried out at low rates, the other rates will also remain low. This is the cost of the RBI trying to help the government, the corporates and the individual borrowers. It comes at the cost of savers. This is interest that the savers would have otherwise earned.

It is as if the RBI is telling the savers, don’t have your money lying around in deposits. Chase a higher return. Buy stocks. Buy bitcoin. 

If the RBI had let the interest rates find their own level, with the government borrowing more, the interest rates would have gone up and helped the savers earn a higher return on their deposits. This would have also encouraged consumption, especially among those individuals whose expenditure depends on interest income. The argument offered by economists over and over again is that lower interest rates lead to higher borrowing and faster economic recovery.

Let’s take a look at this in the case of bank lending to industry. As of February 2021, the total bank lending to industry stood Rs 27.86 lakh crore. As of February 2016, five years back, the total bank lending to industry had stood at Rs 27.45 lakh crore.

Over a period of five years, the net bank lending to industry has gone up by a minuscule Rs 40,731 crore or just 1.5%. Meanwhile, the interest rate on fresh rupee loans given by banks during the same period has fallen from 10.54% to 8.19%, a fall of 235 basis points.

So much for corporates borrowing more at lower interest rates. This is their revealed preference; the actions that they are taking and not the bullshit that they keep mouthing on TV and in the business media. Currently, the Indian corporate simply isn’t confident enough about the country’s economic future and that’s the reason for not borrowing and expanding, irrespective of the public posturing. 

Anyway, the point is not that higher interest rates are required. But the point is that if the RBI did not intervene like it has been doing, by printing money and buying bonds, slightly higher interest rates which would put the real interest rate in positive territory, would have been the order of the day. And that would have been better than the prevailing situation. A little better for the savers about whom neither the RBI nor the government seems to be bothered about.

But then as I said earlier, the government is the RBI’s main customer these days. And that’s the long and the short of it.

Everybody Loves a Good Interest Rate Cut…Except the Savers

My main life lesson from investing: self-interest is the most powerful force on earth, and can get people to embrace and defend almost anything – Jesse Livermore.

Late in the evening of March 31, the department of economic affairs, ministry of finance, put out a press release saying that the interest rates on small savings schemes for the period April to June 2021, have been cut.

The social media got buzzing immediately. And almost everyone from journalists to economists to analysts praised the decision. It was seen as yet another effort by the government to push down interest rates further.

With the state of the economy being where it is, lower interest rates are expected to perk up economic growth. People are expected to borrow and spend more. Corporates are expected to borrow and expand. At lower interest rates individuals who have already taken on loans will see their EMIs go down, leaving more cash in hand, and they are likely to spend that money, helping the economy grow.

That’s how it is expected to work, at least in theory. Hence, everybody loves a good interest rate cut… except the savers.

On April 1, the social media woke up to the finance minister Nirmala Sitharaman’s tweet announcing that “interest rates of small savings schemes… shall continue to be at the rates which existed in the last quarter of 2020-2021.” She further said that the order had been issued by oversight and would be withdrawn.

Later in the day, the department of economic affairs put out a press release to that effect.

The fact that lower interest rates are good for the economy is only one side of the story. They also hurt the economy in different ways. People who are dependent on interest income for their expenditure (like the retired senior citizens) see their incomes fall and have to cut down on their expenditure. This impacts private consumption negatively. 

While this cannot be measured exactly, it does happen. Also, a bulk of India’s household savings (close to 84% in 2019-20) are made in fixed deposits, provident and pension funds, life insurance policies and small savings schemes. Lower interest rates bring down the returns of all these products and this negatively impacts many savers.

As the economist Michael Pettis writes about the relationship between interest rate and consumption in case of China, in The Great Rebalancing:

“Most Chinese savings, at least until recently, have been in the form of bank deposits…Chinese households, in other words, should feel richer when the deposit rate rises and poorer when it declines, in which case rising rates should be associated with rising, not declining, consumption.”

The same logic applies to India as well, with lower interest rates being associated with declining consumption, at least for a section of the population.

This is not to say that interest rates should be higher than they currently are (that is a topic for another day), nonetheless the fact that lower interest rates impact savers and consumption negatively is a point that needs to be made and it rarely gets made. I made this point in a piece I wrote for livemint.com, yesterday. 

Also, borrowing is not just about lower interest rates. It is more about the confidence that the borrower has in his economic future and the ability to keep paying the EMI over the years. I wrote about this in the context of home loans, a few days back.

This leaves us with the question that why doesn’t anyone talk about the negative side of low interest rates. The answer lies in the fact that they don’t have an incentive to do so. Let’s try and look at this in some detail.

1) Fund managers: Fund managers love lower interest rates because it leads a section of the savers, in the hope of earning a higher return, to move their savings from bank fixed deposits to mutual funds and portfolio management services which invest in stocks. In the process, their assets under management go up. More money coming into the stock market also tends to push up stock prices.

All in all, this ensures that fund managers increase their chances of making more money and hence, they love lower interest rates because their acche din continue.

2) Analysts: Analysts love lower interest rates because it leads a section of the savers, in the hope of earning a higher return, to move their savings from bank fixed deposits to stocks. In order to buy stocks, they need to open a demat account with a brokerage. When the new investors buy stocks, the brokerage earns commissions.

Further, it also means that the interest cost borne by corporates on their debt goes down, leading to higher profits. The stock market factors this in and stock prices go up. Given this, analysts have an incentive to love interest rate cuts.

3) Corporates: Do I need to explain this? Lower interest rates lead to a lower interest outflow on debt that a corporate has taken on and hence, higher profits or lower losses for that matter. This explains why corporate honchos are perpetually asking the Reserve Bank of India to cut the repo rate or the interest rate at which it lends to banks.

4) Banks: Banks love lower interest rates simply because at lower interest rates the value of the government bonds they hold goes up. Interest rates and bond prices are inversely related. Higher bond prices mean higher profits for banks or lower losses in case of a few public sector banks. This is why bankers almost always come out in support of interest rate cuts.

This also explains why the bankers hate the idea of small savings schemes offering higher returns than fixed deposits. Lower interest rates on small savings schemes pushes the overall interest rates in the financial system downwards. 

5) Economists: Most economists are employed by stock brokerages, mutual funds, banks, corporates or think tanks. As explained above, stock brokerages, mutual funds, banks and corporates, all benefit from lower interest rates. If your employer benefits from something, you also benefit in the process. Hence, your views are in line with that.

When it comes to think tanks, many are in the business of manufacturing consent for corporates. Their economists act accordingly. 

6) Journalists: With the media being dependent on corporate advertising as it is, it is hardly surprising that most journalists love interest rate cuts. Further, the main job of anchors on business news channels is to keep people interested in the stock market because that is what brings in advertising. And this can only happen, if stock prices keep going up. In this environment, anything, like interest rate cuts, that drives up stock prices, is welcomed.

Of course, some mainstream TV news channels also run propaganda for the government. So, in their case every government decision needs to be justified. That is their incentive to remain in the good books of the government.

7) Government: The central government will end up borrowing close to Rs 25 lakh crore during 2020-21 and 2021-22. Hence, even a 1% fall in the interest rate at which it borrows, will help it save Rs 25,000 crore. It clearly has an incentive in loving low interest rates. 

The point is everyone mentioned above tends to benefit if interest rates keep going down or continue to remain low. Further, they are organised special interests with direct access to the mainstream media. The savers though many more in number aren’t organised to put forward their point of view.

Also, it is easier to do the math around the benefits of interest rate cuts and low interest rates than its flip side. As economist Friedrich Hayek said in his Nobel Prize winning lecture, there is a tendency to simply disregard those factors which “cannot be confirmed by quantitative evidence” and after having done that to “thereupon happily proceed on the fiction that the factors which they can measure are the only ones that are relevant.”

That’s the long and the short of it. 

On Homes and Home Loans

Yesterday evening I had gone to meet a cousin who lives in the Western suburbs of Mumbai. All along the way, there were billboards of Kotak Mahindra Bank advertising its home loans, which are available at an interest rate of 6.65%.

While the interest rate of 6.65% comes with terms and conditions, such low interest rates have rarely been seen before. It is possible to get a home loan these days at an interest rate of 7%.

A few things have happened because of these low rates. There have been scores of stories in the media citing surveys where everyone from women to HNIs to NRIs to millennials seem to want to buy a house and they want to do it right here and right now. 

Of course, these surveys have been carried out by real estate consultants, whose very survival depends on the real estate sector doing well. Incentives as they say.

Low interest rates on home loans also have led to stories in the media suggesting that this is best time to buy a house. The other thing that has happened is that analysts have been recommending stocks of home finance companies (HFCs).

The logic being that at lower interest rates people will take on more home loans. This will help the loan book of HFCs grow, making them good investment bets. How easy all this sounds? But is it?

All this stems from the flawed assumption that people borrow more at lower interest rates and live happily ever after. Let’s see if that is true or not.

Take a look at the following graph. It plots the increase in home loans outstanding during the period April to January, over the years.

 Source: Author calculations on data from Centre for Monitoring Indian Economy.

What does the above graph tell us? It tells us that despite very low home loan interest rates, the increase in home loans given by banks between April 2020 to January 2021, stood at Rs 78,577 crore. This was around half of the increase of Rs 1,56,362 crore between April 2019 to January 2020.

Even between April 2018 and January 2019, the increase stood at Rs 1,46,227 crore. Clearly, people borrowed much more when interest rates were higher. Hence, the logic that people borrow more when interest rates are lower, basically goes for a toss.

In fact, the increase between April 2020 to January 2021, was the second lowest in six years in absolute terms. The lowest increase of Rs 74,837 crore was between April 2016 to January 2017. This period included demonetisation when banks had more or less stopped doing everything else and concentrated on taking back the demonetised notes from the public.

If we look at the period between April 2016 to October 2016, before demonetisation happened, the increase in home loans had stood at Rs 64,501 crore. Clearly the disbursal of home loans slowed down in the post demonetisation months.

There is another point that needs to be made here. Other than banks, HFCs or home finance companies, also give out home loans. Typically, banks give out two-thirds of the home loans and HFCs, the remaining third. Nevertheless, the last couple of years haven’t been good for a few HFCs. This has meant that some of the business of home loans has moved from HFCs to banks.

Once we take these factors into account then we can conclude that the increase in home loans during this financial year, has been the worst in six years. And this despite the extremely low interest rates. In percentage terms, the increase in outstanding home loans during this financial year has stood at 5.97%, the lowest in six years, and the only time the increase has been less than 10%. 

Why is that the case? For economists and analysts, the interest rate is the most important parameter that people look at while taking a home loan, nevertheless, a little bit of common sense tells us that this isn’t the case.

Let’s try and understand this through an example. As per HDFC, India’s largest HFC, their average home loan size is Rs 28.5 lakh. Their average loan to value ratio at the time of giving the loan is 70%. This basically means that HDFC on an average gives up to 70% of the price of the home as a home loan.

This basically means that the average price of a home in the books of HDFC against which they give a home loan, stands at Rs 40.7 lakh (Rs 28.5 lakh divided by 70%). Let’s round this to Rs 41 lakh, for the sake of convenience.

What does this mean? It means that in order to buy a home, other than taking on a loan of the buyer first needs to make sure that he has savings of around Rs 12.5 lakh (Rs 41 lakh minus Rs 28.5 lakh) to make the downpayment on the home loan. Even if the money is available, he or she needs to make sure that they are in a position to spend that money.

This is not where it ends. In many parts of the country a portion of the real estate transaction is still carried out in black. Money needs to be available for that. Further, a stamp duty needs to be paid to the state government. Then there is the cost of moving into a new house (everything from transport to perhaps new furniture).

Once we factor these things into account, we can conclude that the home loan forms around 50-60% of the overall cost of buying a house. Further, in a time like present, any individual thinking of buying a house will have to weigh the decision against the possibility of losing their job or facing a drop in income in their line of work.

Now let’s consider the average home loan of Rs 28.5 lakh. At 7% interest and a tenure of 20 years, the EMI on this amounts to Rs 22,096. At 9%, the EMI would have worked out to Rs 25,642. Hence, the EMI is Rs 3,546 lower.

So, yes, the EMI is lower. But what will the buyer first look at? The lower EMI or the ability to be able to pay the lower EMI and be able to continue paying it in the days to come. Of course, the buyer will look at his ability to pay the EMI and be able to continue paying it. Also, it needs to be remembered that the interest rate on the home loan is a floating one, and can rise in the years to come.

Hence, this decision will be based on the confidence that the buyer has in his or her own economic future. This is not something that can be measured at an aggregate system level and varies from buyer to buyer. The point being that everything that is important cannot necessarily be measured in numerical terms.

Having said that, the confidence in the economic future will be currently low, with many individuals losing their jobs or seeing their friends, relatives and acquaintances lose jobs. Hence, other than losing a job, there is also the fear of losing the job. There has also been a drop in their income or in some cases small businesses have been shutdown. 

Also, whether it is the best time to buy a house or not, like most things in personal finance, it depends on your finances and more importantly your mental makeup of what you want from life. If you want to settle in life and make your parents and relatives happy, and have the money to do so, then now is as good a time as any to buy a home.

Please keep this in mind at every point of time in life when some expert tells you that this is the best time to do this or the best time to do that.

So, right now if you think you have enough money and enough confidence to keep paying the EMI, and want a home to live in, then please go ahead and buy one. Also, make sure that you have enough savings to pay the EMI for at least six months to a year, even without your main source of income.

To conclude, buying a home is not just about low interest rates. There are several other factors, which people who are in the business of selling real estate, seem to conveniently forget about.

Then there are surveys in which a high proportion of people end up saying they want to buy a home to live in. Of course, they do. But just wanting to do something doesn’t add to demand. I mean, I want to buy a house in central Mumbai, but I also know that ain’t going to happen. My finances don’t allow it.

Bitcoin Without Monetary Ambition is Just Another Ponzi Scheme

There has been a lot of talk around the government banning bitcoin and other cryptocurrencies.

In fact, as the finance minister Nirmala Sitharaman recently told the Rajya Sabha: “”A high-level Inter-Ministerial Committee (IMC) constituted under the Chairmanship of Secretary (Economic Affairs) to study the issues related to virtual currencies and propose specific actions to be taken in the matter recommended in its report that all private cryptocurrencies, except any virtual currencies issued by state, will be prohibited in India.”

There is no scope for confusion in this statement. It’s saying that the government is gearing up to ban all cryptocurrencies including bitcoin. The only cryptocurrencies it will allow are those issued by it. (A government issuing a cryptocurrency is a joke, but then let me not go there for the time being. We will tackle it as and when it happens).

If bitcoin and other cryptocurrencies are banned by the government then all the bitcoin brokers through which investors trade, will need to shut down. Hopefully, the government will allow investors some sort of an exit option.

Of course, if you are trading bitcoin through a broker then you are speculating and do not really believe in the philosophy with which bitcoin was designed and launched (even if you think you do).

Satoshi Nakamoto, the creator (or creators for that matter, given that we don’t know), didn’t like the ability of the government and the central banks to create paper money out of thin air by printing it (or creating it digitally for that matter).

As he wrote on a message board in February 2009: “The central bank must be trusted not to debase the currency, but the history of fiat currencies is full of breaches of that trust. Banks must be trusted to hold our money and transfer it electronically, but they lend it out in waves of credit bubbles with barely a fraction in reserve.”

This happened in the aftermath of the financial crisis that broke out in September 2008, after which the Western central banks started printing massive amounts of money to drive down interest rates, in the hope of people and businesses, borrowing and spending money, in order to revive their respective economies.

Nakamoto looked at a central bank’s ability to debase paper money (by creating it out of thin air), as an abuse of the trust people had in it. And Bitcoin was supposed to be a solution for this breach of trust; a cryptocurrency which did not use banks or any third party as a medium and the code for which has been written in such a way that only 21 million units can be created.

The moment you are using a broker to buy bitcoin, you become a part of the conventional financial system and you really don’t remain anonymous anymore as was the idea originally.

A few bitcoin believers who have interacted (a fairly euphemistic word) with me on the social media have told me that there are ways of continuing to buy and sell bitcoin, even if the government bans them. So, they are really not perturbed by the idea of the government banning bitcoin.

The trouble with this argument is that if you continue to trade bitcoin after the ban, you are breaking the law. You might feel that the law isn’t fair, but a law is a law. One way of continuing to trade bitcoin is to legally move money abroad (up to a limit of $2,50,000) and use that money to trade bitcoin.

While this is possible, at some point of time the need to bring money back to India might arise, so, under what head of income will one declare it? If the gains are substantial, won’t the taxman come calling in these days of big data? (Or even if you regularly keep moving a good amount abroad every year).

Believers might still figure out ways to get around the system, but for most normal souls this is not worth the trouble. This is something that the bitcoin believers haven’t gotten their heads around to (yes, yes, yes, have fun stay poor).  Like one individual told me that he can simply bribe the taxman (I mean, yes, you can also do hawala and get your money in cash).

Another factor that needs to be kept in mind here is that the government in the next few years is going to be desperate for tax revenues. I guess I will leave this point here.

The bitcoin brokers in India are desperately trying to spin the usefulness of bitcoin in many interviews in the mainstream media. In fact, in one interview, Sumit Gupta, CEO & Co-Founder of CoinDCX, pointed out that there are 75 lakh bitcoin investors in India. A report in The Times of India puts the number at 1 crore. No source has been provided for these numbers.

The interesting thing is that Gupta feels that “there is a lot of confusion in calling bitcoin as cryptocurrency and not calling it an asset.” He wants bitcoin in India to be considered as an asset and be regulated. He doesn’t want it to be considered as money.

If something like this where to happen, it changes quite a few things.

When an investor buys a company’s stock, he is buying a share in the future earnings of the company. When he buys mutual funds, he is indirectly buying stocks or other financial securities issued by companies or even something like gold. When he buys gold, he buys gold.

When he buys derivatives, he is either hedging against price fluctuation or speculating on the price of a certain commodity. When he buys real estate he buys a home to live in or as a physical asset to profit from in the years to come. I mean one can go on and on here.

(Charles Ponzi on whom the Ponzi scheme is named). 

What does one buy, when one buys bitcoin as an investment asset? Nothing. It would be fair to say that if you take out bitcoin’s or for that matter any other cryptocurrency’s ambition to emerge as a parallel form of money out of the equation, it simply becomes a Ponzi scheme. (Don’t think Gupta realised this while making the point that he did). (You can read why I think bitcoin will never be money, here and here).

A Ponzi scheme is a financial scheme, where a fraudulent promoter promises very high return in a very short period of time to investors. He has no business model to earn this money in order to deliver returns.

The money being brought in by the second set of investors is used to pay off the first set. Or they are encouraged to roll over. As the news of high return spreads, more and more investors get sucked into the scheme, with the greed of earning potentially very high returns driving their investment.

This continues until the money being brought in by the new set of investors is less than the money being redeemed to the older set. Then the scheme collapses. Of course, most promoters disappear with the money before reaching such a stage.

Bitcoin without monetary ambitions is exactly like that. Money being brought in by newer investors pushes the price up, given the limited supply and prices go up very quickly, allowing existing investors to benefit.

As long as money being brought in by fresh investors is higher than money being taken out by existing ones, bitcoin keeps going up. When the equation changes, just like in a Ponzi scheme, bitcoin price crashes.

It’s basically the Ponzi scheme structure of bitcoin which explains its huge volatility on the price front. On February 21, the price of bitcoin was $57,434. Six days later on February 27, it was down by nearly a fifth to $46,345. Or take the period of six days between February 15 and February 21, when the price of bitcoin rose by a fifth (or 20%) to $57,434.

Of course, unlike normal Ponzi schemes, there is technology and thinking behind bitcoin and other cryptocurrencies. But that doesn’t make them any less a Ponzi scheme.

Given this, it’s time that the government steps into ban bitcoin and other cryptocurrencies. India has enough Ponzi schemes to deal with already. There is no point in adding more to the list.