Forget gold, real estate is a bigger time-bomb for all

Even though the Finance Minister and the Reserve Bank of India (RBI) have in the last couple of months repeatedly warned about the repercussions of Indians hoarding too much gold, the role of real estate as a traditional investment avenue has largely been ignored.

Gold may be a time-bomb for the government, given its high current account deficit, but real estate is a bigger time-bomb for investors and even the government - since a lot of bank collateral and government revenues is pegged to inflated property prices.

Just last week, RBI governor D Subbarao dismissed concerns about rising property prices and said: "There is no bubble. The housing price index is showing an increase and we have reported that in our document that came out on Thursday. The monetary and macroeconomic development document shows the housing price 9 cities of the country, and there is no bubble building up there."

And it is due to assurances like these that many people in India believe that one can never go wrong with real estate as it will always guarantee returns. However, columnist Dhirendra Kumar explains how so-called promised and assured rates of return come from very different models of real estate which can be classified into five stages.

1. The change in usage from agricultural or simple barren land to residential or commercial.

2. Coming up of physical infrastructure

3 Improvement in livability or commercial viability

4. Periodic boom and busts

5. General inflation

According to Kumar, historically, those who invested in barren land gained the maximum since there was neither any habitation or physical infrastructure in place at the time. Add to that the general inflation, and you definitely have a solid investment. But things are different now. If you invest in property today, all gains accruing during the initial stages will only benefit the developer.

The situation is similar to corporates paying high premiums for acquisition targets with the hope that the price you pay today will more than compensate with a higher future value. In other words, paying a premium now for future returns without evaluating risks and market dynamics.

This situation is abetted by the artificial scarcity of urban land created by the politician-builder nexus and speculation money being poured into real estate by the parallel economy.

What else can otherwise explain the high real estate prices in Mumbai and Delhi, which are way beyond the actual intrinsic value of properties?


Urban Mumbai and Delhi are priced beyond reach because of artificial scarcities created by the bottling up of land and low floor space indices. Reuters

Urban Mumbai and Delhi are priced beyond reach because of artificial scarcities created by the bottling up of land and low floor space indices. Little wonder, few people are buying.

Current statistics show that transactions are not occurring in metros and so builders are constructing buildings in far-flung suburbs. In fact, the RBI's House Price Index shows that prices in Delhi have risen 47 percent in the last year but property transactions are down 35 percent in the last quarter. Yet the finance ministry has pressured the RBI to give infrastructure status to the housing sector, and relax provisioning norms for it so that banks can extend attractive loans to buyer.

Already several real estate firms are highly leveraged with many of them being downgraded to junk. Recent reports on global real estate suggest that prime commercial real estate in India is one of the most expensive in the world, which makes India economically unviable to do business in. A report in The Economic Times today pointed out that vacancy levels in malls across the country are growing at an alarming rate, especially in smaller towns where over a third of the space is unoccupied, as against just 7 percent in 2007.

"Many developers overestimated the appetite for retail in these small towns. They did not realise that the consumption threshold here was low," the report quotes Ashutosh Limaye, head of research at Jones Lang LaSalle, as saying.

Is the bursting of the housing bubble in the West, vacant commercial spaces and empty flats not reason enough for Indians to re-evaluate their attitudes to real estate? The endless belief in real estate as a surefire bet needs to end.

Updated Date: Dec 20, 2014 18:41 PM

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