[Samurai]

Originally Posted by driverace

In addition to the Demand-Supply explanation, could you (Samurai) OR anyone else, please shed some light on:

The cost of construction affects supply curve, but has no affect on demand.

The price depends mostly on demand curve, and the elasticity when the demand curve shifts. Elasticity is low where sellers are individuals or deep pocketed builders, who won't drop the price when demand goes down (demand curve shifts to right).

The delta (price-cost) you are alluding to is nothing but profit. What is a healthy profit? It depends on which side you are looking from, as a buyer or seller. The pattern of profit depends on too many things, no point getting into that. Ideally buyer shouldn't worry about seller's profit, instead he should worry whether he getting value for his money.

Originally Posted by reverse_gear

In theory, the demand curve seems to work. But housing in Mumbai has a few distortions, making it a relatively inefficient market:

Economics is the study of how markets work. It is not a scientific principle that has unbreakable laws like physics. All the distortions and inefficiencies are part of economic theory since the start of civilization. Every time a new situation arises, it is studied and added to the repository of economic theory. We can never say economic theory has failed, because it merely explains how things work. It is not a law that market follows.

[tsk1979]

Originally Posted by Samurai

The economic theory obviously applies to Mumbai. When demand far outstrips supply, this is what happens. Just see a typical demand curve, and you will know why. If the quantity of houses are only Q2, and same number of buyers are ready to buy at P2 price, sellers will sell at P2 price. Customer who is only willing to pay P1 has no chance.

Attachment 1382849

Economics is valid if you have "real" usable money. Real estate is safe haven for Black money or dark money. This is surplus income for many. So they do not care if they do not sell for years.

Let me give you a real world example. In Noida, a seller was offering X price. I offered 10% less. Seller is not willing to budge. Flat is unsold for past 1.5 years now, and not even given on rent.

Its his black money parking vessel. Even as cash, this money would not have grown. So he can wait for couple of years more.

That is why you have lakhs of ready to move in flats which are on sale, with nobody living.

Imagine them as piles of cash. If you go to a guy with 10 lakhs cash, and offer to pay 9 lakhs will the guy give you 10 lakhs cash for 9 lakhs?

[alpha1]

Originally Posted by Saanil

I came to know that a 2 BHK flat in Borivali East (near highway) costs 1.2crores. I assumed interest rate of 9% and a tenure of 20 years. The EMI came out to be 1.07 lakh. That implies that my salary has to be >3-4 lakhs per month. As far as I know there is a very small section of people who earn this much at the age of 27. I find this statistic absolutely depressing.

I remember writing this earlier:

Originally Posted by alpha1

Then it is wrong to use economics to try to explain why something lead to misery.

There is only one reason for everyone's misery: expectations far greater than results. No study of economics needed for this.

Economics can perhaps explain why the results are not as great as you expected them to be. But no one can explain why a miserable person (rich or poor) actually harbors such high expectations!

1. In your analysis, why are you only considering 27 years old folks looking to buy house? As far as I know a person who has means and money can and usually does start looking out to buy house at any age.

2. You may be surprised to know the amount of people who earn more than 3 lakhs per month. How many guys pass out from IIMs/ISBs/top of the line B schools per year? How many of them would be in India->Mumbai? (Very significant percent). What would be the average salary of such a person having about 5-10 years experience? Easily >40 lacs per annum.

Now let us also add the IT and other sector, perhaps the experience levels to reach such salary might be higher (say 10-20 years), but it exists never the less. And definitely more quantity of such people. And I haven't even started considering people involved in owning business who are growing richer day by day.

Ever increasing. Every year. How many houses (qty) are available for sale in Mumbai at a given moment?

Originally Posted by tsk1979

Its his black money parking vessel. Even as cash, this money would not have grown. So he can wait for couple of years more.

Imagine them as piles of cash. If you go to a guy with 10 lakhs cash, and offer to pay 9 lakhs will the guy give you 10 lakhs cash for 9 lakhs?

So there is an inherent belief (inside owner's head) that the house will fetch a higher prices somewhere down the line in future. And that is why the owner is not willing to budge down and book a loss today.
This is not a white money / black money phenomenon.
The same situation can happen even with owners who have loads of white money.

[driverace]

Originally Posted by Samurai

..
The delta (price-cost) you are alluding to is nothing but profit. What is a healthy profit? It depends on which side you are looking from, as a buyer or seller. The pattern of profit depends on too many things, no point getting into that. Ideally buyer shouldn't worry about seller's profit, instead he should worry whether he getting value for his money.
...

Thank you for the explanation, Samurai!

I am concerned about the Delta, perhaps-more-than-justified.
but my reason for being concerned is:

If I am buying a flat costing ~15L & paying a price of 50L (real life example) - Delta = 35L (230%)
I do not want to be loosing money - if the bubble bursts & housing prices stabilize for forthcoming 10 years of so.. at 40L i.e. Delta of 25L (160%)

If compared to a city with a similar standard of living, there should be some ballpark of a "healthy" Delta, that we should be able to determine whether the real estate is risky-inflated OR along standards around.

As I write, I also realize, that situations are too dynamic & too many different factors affect real estate in different cities.
It could be almost a futile attempt to compare the Deltas, but I am still looking for some number, some 'numerical' indicator which can tell me- as compared to rest of India & market average, is buying a flat at given "50L" price a wise decision OR not.

I saw a few videos of khanacademy on buying-vs-renting, where he also talks about the housing-bubble-burst & impact on investment in Real estate.
In my (most probably naive) opinion, such situation is way far off in India since the supply-demand, wouldn't really match up that easily.

BUT, again - when houses costing 25~30L tops- are selling at 1.5Cr~2Cr+, I am trying to understand whether these will come down to more sensible-kinda values of 60L~75L? - thereby having a 'healthy' delta in the market?
I am not sure if I am conveying my thought precisely in words- but that's what I meant to ask.

Your views please,

Ace.

[phamilyman]

Originally Posted by Saanil

I do not think it makes sense to apply principles of economics in Housing sector - especially in Mumbai.

It is even funnier when you consider that its FAR cheaper to rent in Mumbai or anywhere in India, than it is to purchase.

Even in stratospherically expensive cities like Hong Kong, the rent does not fall behind the EMI as much as it does in India.

In my mind, its a perfect example of how irrationality overcomes economics. (plus the whole black money question as pointed out by TSK).

[Saanil]

Originally Posted by alpha1

I remember writing this earlier:

I find it very hard to believe that there are many people, aged 27 years, who earn >40 lakhs. Of course I know some people (people working in Investment Banking etc) but when you consider the average, or median, definitely the salary will be much less than that. Please note that I am talking about people of 27 years of age (which happens to be my age) and who are not into business. When we talk about such analysis, we always have to take some assumptions.

Check the following article which throws more light on the issue: Link

I am from IIT and have few friends from IIM/ISB too. A salary of >40 lakhs seems to high - Again some people might get it but on an average, in my opinion, 40 lakhs is too high. You might try going to their website and finding the average salary. Note that you need to remove those cases who get job offers for outside India as conversion of their salaries in INR (say from US dollar to INR) will distort the figures.

[Samurai]

Originally Posted by tsk1979

Economics is valid if you have "real" usable money....

Let me give you a real world example. In Noida, a seller was offering X price. I offered 10% less. Seller is not willing to budge. Flat is unsold for past 1.5 years now, and not even given on rent.

I am losing count of the number of times I have to remind people that economics is all about real world, there is no ideal world economics.

You are just telling us that you offered less than what seller is wishing to sell for. Why should seller budge? He may have some sentimental reasons. This in no way makes economics invalid. A seller can fix any price and stick to it, as long as he is not breaking any laws. He has merely picked his spot in the supply curve. Anybody who sees value at that price, can buy it. That is real world economics, the only kind.

Originally Posted by phamilyman

In my mind, its a perfect example of how irrationality overcomes economics. (plus the whole black money question as pointed out by TSK).

No, it doesn't. Don't forget irrationality is very much part of economics, like elasticity.

[tsk1979]

Originally Posted by alpha1

This is not a white money / black money phenomenon.
The same situation can happen even with owners who have loads of white money.

no it does not.
Imagine you have house you want to sell for 1.1 crore. You are offered 1 crore. If you do not sell it for 3 years, the prices may not rise due to oversupply. But if you sell it for less and put it in investment, you can easily get 12%.
With black money, that 12% bit is tough.
This is basically money laundering.
When you launder money, any return better than -30% is positive return. So you can hold indefinitely.

A white money guy paying EMIs does not have this luxury as the rent will not pay for EMI.

[Saanil]

Originally Posted by alpha1

I remember writing this earlier:


2. You may be surprised to know the amount of people who earn more than 3 lakhs per month. How many guys pass out from IIMs/ISBs/top of the line B schools per year? How many of them would be in India->Mumbai? (Very significant percent). What would be the average salary of such a person having about 5-10 years experience? Easily >40 lacs per annum.

Here are the placement statistics of ISB and IIM Ahmadabad (source 1, source 2):

Average salary out of IIM and ISB can be assumed to be in the 15-20 lakh range. Note that this is before tax. Assume the average work experience coming out of IIM to be 2 years and that out of ISB is 3-4 years.

[tsk1979]

Originally Posted by Samurai

I am losing count of the number of times I have to remind people that economics is all about real world, there is no ideal world economics.

You are just telling us that you offered less than what seller is wishing to sell for. Why should seller budge? He may have some sentimental reasons. This in no way makes economics invalid. A seller can fix any price and stick to it, as long as he is not breaking any laws. He has merely picked his spot in the supply curve. Anybody who sees value at that price, can buy it. That is real world economics, the only kind.

No, it doesn't. Don't forget irrationality is very much part of economics, like elasticity.

My only point is that inspite of oversupply, with 80-90% of flats unoccupied in newly constructed buildings, prices are not coming down. In Economics, for most commodities, all over the world, when demand falters, prices come down. Sentimental reasons are okay for 1-2 guys, but are 4 lakh owners sentimental now?

The basic theory of demand and supply and its impact on pricing is failing right before our eyes, why?

[Samurai]

May be this post will remind members that economics is always real world?

https://www.team-bhp.com/forum/shift...ml#post3623561 (Understanding Economics)

[alpha1]

Originally Posted by driverace

If I am buying a flat costing ~15L & paying a price of 50L (real life example) - Delta = 35L (230%)
I do not want to be loosing money - if the bubble bursts & housing prices stabilize for forthcoming 10 years of so.. at 40L i.e. Delta of 25L (160%)

You lose money when you buy and SELL.
This happens if you take house as an investment.
If you take house as a consumption (=staying), then even if you bought the flat at 50L, and tomorrow it goes down to 10L - it doesn't make any difference to you. (Unless you love boasting to others about how your house price has appreciated)

IF the bubbles busts, you are mistaken in believing that the market price will touch the construction cost. It can go even deeper below. Price is based on demand and supply.

Originally Posted by Saanil

I find it very hard to believe that there are many people, aged 27 years, who earn >40 lakhs.

My question reworded is: Do you think that people buy houses only when they achieve an age of 27? Why are you concentrating on this number '27'?

Don't you think someone would be buying house as soon as he is eligible for a home loan. Similarly one may buy when he has good savings at an age of 50 years.

So you need to first of all look at ALL the potential buyers of houses.
The best way is to take a Sunday off to a builder's office and check the profile of people showing interest. I am sure a very small percent will be 27 years old.

Also regarding the salary aspect. 30/40+ in large tier-1 metros is a reality if you are MBA from Top schools and have had significant experience in your field. (I am not talking about immediate pass-outs)

Also you haven't answered about how many houses are up for sale at a given instance. Say today right now.

Originally Posted by tsk1979

no it does not.
Imagine you have house you want to sell for 1.1 crore. You are offered 1 crore. If you do not sell it for 3 years, the prices may not rise due to oversupply. But if you sell it for less and put it in investment, you can easily get 12%.
With black money, that 12% bit is tough.

Or perhaps it isn't?
Isn't it better for a black money guy to liquidate the cash and lend it to the hawala economy for a much higher rate. Check any jeweler, what lending interest rate he offers.

If you believe that such lending is forte of rich and mighty with old money, then think again. My mother-in-law who perhaps has pittance for money, lends the cash - thousands to tens of thousands - (secretly, much to our horror) to "needy" and "aspirational" and has been doing so for decades. Interest rate? Much higher than credit card's monthly rate.

If what you say is true, then it makes all the more sense to let go of devalued property at the earliest, if someone invests black money.

Originally Posted by tsk1979

My only point is that inspite of oversupply, with 80-90% of flats unoccupied in newly constructed buildings, prices are not coming down. In Economics, for most commodities, all over the world, when demand falters, prices come down. Sentimental reasons are okay for 1-2 guys, but are 4 lakh owners sentimental now?

The basic theory of demand and supply and its impact on pricing is failing right before our eyes, why?

There is no failure of supply / demand here.

To illustrate: let me simply ask you:
1. what are the uses of gold
2. what causes the demand of gold
3. what causes the supply of gold
3. why do people value gold

Perhaps you are mixing two purpose/demands of house: investment vs consumption?

[reverse_gear]

Originally Posted by Samurai

Economics is the study of how markets work. It is not a scientific principle that has unbreakable laws like physics. All the distortions and inefficiencies are part of economic theory since the start of civilization. Every time a new situation arises, it is studied and added to the repository of economic theory. We can never say economic theory has failed, because it merely explains how things work. It is not a law that market follows.

I agree, I am not trying to knock economic theory or practice. My comment was about the distortions to the efficient market hypothesis, which forms the basis for the equilibrium curve as was plotted. The nature of the equilibrium curve does not remain the same when faced with imperfect competition, which is the case here. Factors to consider here are information asymmetry, monopolistic competition, time-dependent supply distortions and impact of taxes on demand (which applies to those not paying in black money).

Not trying to get into theory here, but just pointing out that the real estate market does not necessarily have a demand-supply correlation in the format indicated, due to market factors.

[phamilyman]

Originally Posted by Samurai

No, it doesn't. Don't forget irrationality is very much part of economics, like elasticity.

So please help me understand why EMI >> rentals in India? (before even considering interest cost on equity)

A rule of thumb in Gurgaon is 4-10x (EMI = 4 X monthly rental) from my experience. Even if you discount 50% to account for the recent rise in the last 5 years, its still 2-5x.

[alpha1]

Originally Posted by phamilyman

So please help me understand why EMI >> rentals in India? (before even considering interest cost on equity)
.

I think you are missing the answer in your question!
EMI is greater than rental because people are showing preference for using house as an investment compared to house as a consumption. (by the way this is what I was trying to illustrate in the 'gold' example in response to TSK, people's demand for gold is mainly for investment, not for consumption).

Or in other words, there are more number of people looking for house just as an investment, compared to people who are looking out for house for living. The people who are looking for consumption have a choice of either buying or hiring. And thus the supply exceeds the demand for rental case.

To illustrate, the colony were I live, has blocks which are completely empty. Reason? Gulf money. People (NRI) settled abroad have bought flats after flats and keeping them empty. In fact they don't have any intent of renting it out because they don't want hassles of tenant, eviction, maintenance of flat, brokerage, etc. For them it is like Fixed deposit of 10 or more years.

I think it may hurt you to think in these terms, but you are competing for the same house vs someone who has higher disposable salary. Your needs may be to stay, his needs may be to own, but the seller is not going to place a priority on your need of staying vs his need of owning, if he agrees to pay higher price.


PS: The annual residential rental yield in urban India is about 2-3%. Average property appreciation rate is 10-15%.