The Indian Economy Blog

November 2, 2007

Expensive Real Estate

Filed under: Business — Neelakantan @ 10:29 am

Tim Harford poses a question, perhaps we can answer it?

Just wanted to ask if there is an economic explanation for the fact that real estate in cities in third world countries like India is often more expensive than in cities in the US. (Except for New York,and a few cities in California.)

I did not have a satisfactory answer, except to wonder whether it is really true that real estate in third world cities is more expensive than in developed-world cities.
[Undercover Economist]

I personally think that it is partially true. And that this is because of a combination of factors. Obviously land is scarce (also via artificial controls), connecting infrastructure is not great, population is dense and there is too much money chasing the available land. Add the complications of rent and land controls in place in many of our cities and perhaps you have the answer.

Comments?

12 Comments »

  1. Any commodity, including real estate, will be more expensive wherever there is more demand than supply. And the demand could be related to the extent of interest generated by that sector and the resultant investments that flow into that sector.

    So its not surprising that real estate is often more expensive in countries like India than in cities in the US.

    But this is not necessarily true for all cities in India. Real estate prices can vary by a huge extent between cities in India. Rates could vary as widely as USD 20 to USD 1000 per square foot of built up residential floor space across India.

    Neelkantan also mentions a set of possible reasons which could stifle supply and thus push up prices. And in the recent context in India, real estate ia also attracting a lot of institutional investments, including foreign capital, thus tilting the demand-supply balance further. Many of the factors throttling supply are getting relaxed but there is still a lot of catching up to be done.

    This will be followed by a situation of pockets of over-supply which would reflect in correction or flattening of the rates.

    Till the wheel turns a full-circle yet again!

    Comment by guruprasad — November 2, 2007 @ 12:31 pm

  2. The obvious answer seems the supply side factors – Government control makes it difficult for suppliers to create an active market, thus too much money chases the too few acreage in major cities.

    However on the demand side, greater liquidity, lack of trickle down thus, it could be a symptom of the prevailing inequality, where while smaller items have been mass marketised, items like Land still command the luxury premium

    Comment by Spiff — November 2, 2007 @ 1:36 pm

  3. id say because the areas which have good amenities are few and far between. in developed countries, since such areas are a lot more (as a % of total salable area) the prices are lower.

    Comment by vatsan — November 2, 2007 @ 7:39 pm

  4. amenities = infrastructure.

    Comment by vatsan — November 2, 2007 @ 7:39 pm

  5. there is no such thing as a rich country or a poor country, only rich people and poor people.
    india is not a third-world country. only parts of it are third-world.
    fifty million indians are rich.
    two million rich indians live in mumbai.
    few cities have as many rich people.
    when two million rich people live in a city, the city – or at least a part of it – is rich.
    in rich cities, real estate is expensive.
    cheers.

    Comment by fred blaser — November 3, 2007 @ 8:58 am

  6. It is just the market dictating terms according to the scenario in India at the moment. The multinationals are willing to pay more due to exchange rate reasons. Yes, they may pay more for renting officespace but they still save on wages. Moreover, they are forced to be in the big cities for infrastructure reasons – airport access, better IT infrastructure, better talent pool etc. The market is slowly forcing the politicians to put more money into better connecting the smaller townships with the main urban cities.

    Comment by Prakash — November 7, 2007 @ 3:48 pm

  7. An observation.. Being involved in the Indian wine industry, I have come across more than a few French wine industry people who scoff at the relatively higher agricultural land cost in India compared to Europe.. I was shocked myself.. Ofcourse I am not saying buying a piece of Bordeaux is cheaper than a piece of the hinterland in India!

    Comment by Ravi Gurnani — November 13, 2007 @ 7:11 pm

  8. Perhaps, these are possible reasons:
    1. Extraordinary rates of urbanization.
    2. Availability of economic infrastructure
    and opportunity being highly dependent on
    city size.
    3. Real Estate as speculation and investment.
    Opportunities for investment of money are
    relatively limited, and real estate is a
    assured source of returns.
    4. (Connected to 3) underdeveloped markets for
    secure financing and purchase of land,
    consequently land transactions are cash driven,
    with corresponding transaction costs, and higher
    asking price (no mortgage == larger payments to
    offset loss of interest). Also, demand could be
    affected because people would buy land as soon as
    they are financially able, while mortgages offer the
    chance of delaying such decisions.
    5. Poor transportation infrastructure and high commuting
    costs, which means suburban structures as in the US
    are limited, and increased pressure on land as function
    of population size and density.
    6. Poor legal frameworks for property rights, and outdated
    building codes which limit supply.

    I think 1-3 are fairly obvious, while 4. could be unimportant
    or wrong.

    Comment by krishna — November 15, 2007 @ 7:50 am

  9. I’ve not found a satisfactory ans either; I’ve looking for a house in pune for almost a year now and in no way can I afford it with my current income. The place has become misreable for common people; NRI prefer buying house in pune at a higher rate as it does not matter to them much due to the exchange rate they get; but due to this the person resinding in India whoes income is not anywhere near comparable to the NRI’s cannot even think of buying a good house in and around city. above that the interest rates have gone up..
    I seriously think; there should be some block and standardization in the system to control real estate rate. It is one of the sector where we really do not have good governmental control on.

    Comment by Darshan — November 15, 2007 @ 8:49 am

  10. The reality is not very obvious.
    There is a lot of land available around the cities. Most, if not all, is owned by politicians and a little bit is blocked with speculators. As a result, the actual land available for construction and development is limited and automatically becomes a scarce commodity. This raises the land prices which in turn leads to espensive real-estate.
    Even in US, people paint their own houses as hired painters are impossible to afford. No middle class Indian actually paints their own houses. Same is true for plumbing etc.

    All we need to do is to have a will to remove this artificial shortage. Any piece of land that is not used for farming or for residential construction should be automatically placed in open market for open auctions after say 2 or 3 years. This will bring down the land prices, which in turn will bring down all real-estate prices.

    Comment by Harmeet — November 26, 2007 @ 5:39 pm

  11. I think the answer some where lies in the book..globalisation and its discontents by joseph stiglitz.He argues that real estate prices ver much are a function of FDI infused in the country as well as the extent of land protection rights provided by the host country.If the latter is more, more people from other nations would invest which will make the market more efficient and prices will be kept low.But this can only happen if land protection rights are ensured.Also they will realize larger return in their capital gains as developed countries lands have more tendency to appreciate..dude to contuniual development in and around..wich is absent in developing nations..

    Comment by abhishek — December 27, 2007 @ 12:49 pm

  12. Krishna- Lack of mortgages should actually push prices down not the other way round. In fact in the US people buy houses when still in their last year of college as they can get mortgages based on job offer letters and its actually cheaper to pay a mortgage than rent in university towns.

    Abhishek- Foreign FDI in real estate would tend to push prices up not the other way round. If the FDI is in infrastructure in the hinterland it may bring more developable land on the market but that is not likely to happen as the private sector never invests in risky projects. For hinterland development with a great chance of failure only the government is suited aka the interstate highways were built by the federal government not some private developer.

    Personally I think the reason for high real estate prices in India is that our land is just too fertile. Let me explain that. According to CIA figures India has 57% cultivable land. Most nations have much lower. (The cultivable land in China,Russia,Canada,Brazil is all much less than that in India. The only country which comes close to India in total cultivable land is the US which is actually 3 times larger in total size but has 19% cultivable land). What this means that in most of India any land you would want to build on is perfectly suited for agriculture so there is no real incentive for the landowner to stop growing crops and develop apartments unless the price is high. In most other countries there is a lot of wasteland and marginal land readily available for building.

    Comment by PG — July 29, 2008 @ 11:28 am

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