Barry Grooms, co-owner of Florida Suncoast Real Estate, has been inducted into the National Association of Realtors Hall of Fame. The 2020 president of the

What gave Indian properties so much boom? The rates of commercial as well as residential lands have become so high, even in small tier 3 cities. This was not expected. Why?

India is currently witnessing a real-estate bubble.

A bubble, in economic jargon, is a state where the market price of an asset (property, commodities, etc) is many magnitudes higher than its intrinsic value.

Two of the most popular examples of such asset bubbles are:

  • Dot-com bubble: Everyone was hyped over the phenomenal growth of the internet with everyone starting their own internet company,
  • 1997 Asian financial crisis: Though the crisis officially started with the collapse of the Thai Baht, the seeds were sown years earlier with the huge inflow of ‘hot money’ mixed with corruption that led to the accumulation of inefficiencies in the system.

The reason there are such bubbles is that markets are never perfectly rational in the real world. A market is the sum total of people in it, and people are irrational – they cannot make perfectly logical decisions, they are bound by fear and insecurities, and are prone to speculation and the Bandwagon effect.

Many people still refute the existence of any such asset bubble. However, it can be seen clearly.

For example, the flat I have rented is in an area where average price for a 1BHK is around INR 1.5 Cr. The rental cost is around 30k/month i.e. 3.6 L per year. Hence, the owner gets around 2.4% return annually on the property. However, the rate of borrowing (for property loans) is around 10-14%.

So, if a person was to take a loan, he would be paying 10-14% while only getting around 2.5%. In case of an market in equilibrium, these two should be almost equal.

There are many causes for the “Great Indian Property Bubble” including, but not limited to, high M3 growth rate, growth disparity, indiscriminate lending from banks, tax breaks etc.

#1: Increasing M3 money supply
From: The Reality of the Indian Housing Bubble

In the Indian context, there is strong evidence of an unprecedented growth in money supply where one has witnessed a double-digit year-on-year growth rate of broad money supply or M3 (see chart).

Liquidity has to go somewhere. In the case of India, this liquidity seems to have gone into the real estate market creating a false boom. A closer look at India’s real estate price data makes this more evident.

[Note: A 5x–6x increase in housing prices in under a dozen years is nothing short of spectacular when compared to other cities across the world. What is more astounding is that the actual price rise in Indian cities is likely to be higher than the reported figures suggest given that it is widely acknowledged that the official housing prices are under-reported for computation of tax gains – and this is something that the government is attempting to remediate by reforming the stamp duty transactions in states.]

We can see clearly that the rise in housing index is closely correlated with the rise in money supply.

#2: Tax breaks and the impetus to black money

From: India’s Real Estate Bubble Market set for Stagflation in coming 5 years, if not outright Burst

Real estate in India allows retailer to leverage their savings and get tax breaks. This has artificially boosted price along with massive amounts of black money. Most of the corruption money in India (Saradha scam, FTI scam etc.) gets parked into real estate, as it can absorb massive amounts of money without too much scrutiny. Most consumers have almost no right, as the developers have huge power due to political and police patronage. There are one sided agreements and construction quality is quite pathetic. There are a huge host of taxes and duties that buyers have to pay, along with hefty registration amounts. Parking is also an extra payable which beats me. Where would a consumer park his car – on his head? Governments even charge apartment buyers for providing infrastructure (utility, roads etc.). Is that not supposed to be why consumers pay normal taxes.

#3: Inequitable growth
The 6 metros of India house around 8-10% of the total Indian population. If you need a job in Finance, you have to be in Mumbai. If you are a software engineer, chances are that you will end up either in Bangalore or Hyderabad.

The majority of companies and the largest chunk of start-ups are targeting the metros. As a result, everyone is flocking to these cities. Demand goes up, but there is limited space to develop more houses. Prices go up.

I am hoping that when (and if) the “100 smart cities” proposal actually comes to fruition, this disparity will be alleviated, at least to some extent.

All of the above, coupled with the fact that loans are easily available and disbursed and that the interest paid on property loan is tax-deductible, made it a hot investment option for people.

People didn’t mind the astronomical prices nor the fact that the rental revenue would be low. Everyone was of the view that prices would keep rising and that they would finally exit with a huge amount of capital gain. People started buying multiple properties, treating it as a safe haven like Gold.

However, the good news is that the bubble is slowly fizzing out, at least in some places.

From: Is the real estate market headed for a crash?

In the April-June quarter, house prices fell in 22 out of 26 cities tracked by the National Housing Bank’s Residex (residential index) compared with the January-March quarter. It is only the short-term scenario. Despite adverse conditions, property prices in most cities have been holding ground for a long time now. For instance, over one- and two-year periods, the index shows a sharp rise in property prices in Delhi, Mumbai and Bangalore.

From: Indian Real Estate Bubble is starting to burst – Report

The Indian Real Estate sector is starting to unravel with prices having fallen 7-18% in India’s large cities over the past year, Ambit Capital said in a report.

Indiscriminate construction without much though to demand and its trajectory in most places has led to the accumulation of huge inventory of unsold houses across all major cities.

As soon as any announcement is made by the government regarding development, property developers and brokers rush to buy property, construct buildings, and claim ownership over brokering. In the race to finish first, new properties and complexes are springing up like spring bunnies. And due to the inherent red-tape in the administrative machinery, a lot of these initiatives do not see the light of day. Suddenly there are no takers for the newly constructed residential behemoths.

Graph from: Livemint

This can also be seen in Mumbai where a lot of people I talked to said that price of real estate is going down to the levels it was at 3-4 years back.

P.S. Not a good time to invest in real estate. Hold on till the end of 2016 to allow the market to correct itself.