Opinion | Why it’s time to end regulatory capture in realty sector

Real estate is the most undeserving of sectors for any largesse. It is one hell of a rigged market

Few sectors in the economy have the kind of positive impact on jobs and livelihoods as real estate. Arguably, few customer segments are more deserving of price relief than homebuyers. However, despite interest rate subventions, tax deductions under sections 24, 80C and 80EE, and tax-free profits for builders who concentrate on affordable housing, urban property is simply unaffordable to most city dwellers. The only two viable options are slums or commutes from distant peripheries.

So, if the GST Council, at its next meeting on 10 January, cuts rates on under-construction properties to 5%, and duties on cement are additionally brought down from an extortionate 28% to 18%, it will help more people buy properties.

However, consider a counterpoint. Real estate is also the most undeserving of sectors for any largesse. It is one hell of a rigged market, rigged by builders, babus and mantris at the state and central levels, because the corrupt hold a lot of their ill-gotten black wealth in real estate. They have a vested interest in keeping prices high, by artificially restricting supplies of land. No sector epitomises the term “regulatory capture" better than real estate, for land and property prices are rigged through opaque mechanisms such as building permits and zoning laws, and control of available land supplies by artificially limiting vertical building and making related infrastructure investment.

So, while there is a strong case for bringing down GST rates in general, including on real estate and its supply chain, if we don’t simultaneously reform the land markets, any tax relief will end up benefiting the wrong parties. Just as farm loan waivers benefit the richer sections among farmers, tax and other benefits for real estate will benefit the undeserving more than the deserving.

If you don’t believe that the land markets are rigged, just look at one statistic: between the last peak in January 2008 and now, the Sensex has risen around 78%; the S&P BSE Realty index, on the other hand, crashed, destroying 86% of its value. If this index value reflects the underlying profits in real estate, we should have seen real estate prices crashing by at least 50-60% over the last 11 years, but that has not happened. The only obvious takeaway is this: real value in real estate is captured outside balance sheets. This is how crooked the business is. So, any relief is going to largely protect the profitability of the builder-politician-bureaucrat conglomerate, not the real homebuyer.

In the Mumbai Metropolitan Region, between 2013 and now, unsold property inventories rose from 140,000 flats to 220,000, according to Anarock Property Consultants. Builders are announcing easy payment plans titled 20:80, 10:90 and even 1:99, where the buyer has to pay only 1% of the sale price upfront. But it is less about the consumer and more about generating short-term cash flows for those stuck with large inventories.

Another bit of data should clinch the argument. Rental yields computed for 14 cities by a property website average just 3%. Even a savings bank account pays more than that. So much for the argument that property is always a good investment.

This brings us to the larger question: why is the property market weak despite all the sops already directed at it by the Modi government? The answer, apart from demonetization, GST, RERA, et al, is that the market is targeted at a very small segment of the upper middle classes and the only way to expand the market to at least 10-15% of the population is to bring down prices, which means the builders, politicians, bureaucrats and “investors" who are sitting on loss-making illegal inventories have to take sharp haircuts of 30-50% at least.

Till this correction happens, whether through formal cuts, or through time-period adjustments facilitated by holding prices for, say, 5-10 years, the housing markets will not be freed. This means that a sector that should create millions of jobs in urban and rural areas is being held hostage by benami owners and investors who control the land markets through their vice-like grip on urban development policies, building permits, and infrastructure plans.

It is also important to mention two other parties with interests in keeping prices high —those who already own properties and have loans pending on them, and banks, which are striving frenetically to expand their retail loan offerings after having burnt their fingers with very large corporate loans that went bad. However, these segments can be protected by giving them some kind of regulatory forbearance on EMIs or easier provisioning against properties whose values may depreciate if market prices of property fall as a result of reforms and greater transparency.

We can’t avoid facing the elephant in the room. It is not possible to create millions of jobs and house our homeless without first reforming the factor market that needs it the most: land, especially urban land. We need to create a proper urban land market, and bring down its prices by adopting sensible policies to increase its potential supply so that our urbanisation is concentrated and capable of optimising commutes and collaborative networks of talented workers. Developing colonies of workers in distant suburbs is not the best way to create smart cities. Smart cities emerge from smart utilization of available spaces, not antiseptically designed satellite towns far away from workplaces.

R. Jagannathan is editorial director, ‘Swarajya’ magazine