Good morning, Mr. Hiranandani!*

A very reputed real estate developer with a multi-city footprint was on national television stating that if the credit-squeeze continued, about 10 million people in the construction industry would be losing their jobs. Alarming, right?

I mean, when so many people linked to the construction industry for their livelihood face the possibility of seeing their incomes come under a big question mark, policy makers and leaders of all dispositions need to sit up and do something about it.

The above statement seems so simple and straight-forward in its articulation and the intent behind it. Well, I am not sure that easing credit is the solution and I’ll tell you why!

To understand my point, you have to understand the genesis of the mess the Indian real estate business finds itself in, today. In the early part of this decade, when the real estate and housing construction industry was emerging from the shadows of the mid-nineties’ real estate meltdown, newly constructed real estate in Mumbai suburbs was available, at up to Rs. 2000/- p.sq.ft. in areas north of Andheri, a suburb in western Mumbai. Plenty of plots were available at affordable rates for builders to launch residential projects, sell under-construction property backed by easily available and affordable loans from banks driven by the ‘retail revolution’ mantra.

The going was ‘good’ for all – manufacturer, financier and customer. But, then, who knew that ‘9/11’ and its resultant after-effects would lead to a ‘windfall’ in Indian real estate with such far reaching consequences? Post 9/11, the loose money policies of central banks, globally, led to a ‘boom’ in consumer lending in India, which the real estate industry was quick to ‘spot’ and cash-in on.

As, there were no entry barriers, thanks to the lack of a “Housing policy” or a “Housing regulator”, speculators masquerading as developers, had a field day. Anybody with a plot of land would launch a project, get the necessary plans approved (?) and then in turn seek project approval from banks which ensured that a buyer of a flat in that project was eligible to get a loan from the said bank. Nothing wrong about this scheme of things, except, that there was hardly any check on the developer in terms of track record, capital adequacy, project completion deadlines, end-use of funds received towards part payment for sale of units etc.

Also, the very possibility that people with questionable credibility can become developers, mean customers buying ‘under construction’ projects are unknowingly taking a ‘risk’ (the execution risk) on the builder which they are not ‘aware of’ and have not ‘built into the price’.

What transpired subsequently was laissez-faire of the worst kind.

Builders would launch projects with sketchy details, sometimes without necessary approvals, banks would be desperate to get a piece of the action, and the customer would be ‘sold’ stories by ‘friendly brokers’ (make no mistake, they were not friends of the customers but the developers) about how prices would go up and the customer would have to pay a higher rate if the ‘deal’ was not finalized within the ‘deadline’.

And so the party continued! Builders showed record growth in sales (nobody spoke in terms of square feet area developed, sold and possession given), bankers counted the number and value of loans sanctioned and disbursed (I am sure till date they don’t track the number of customers who got possession of newly constructed flats) and everybody in the food chain was happy!

However, not everybody was complacent. The RBI was skeptical and reasonably so – the rate of growth of loan disbursals to the industry - to retail borrowers as well as developers and the speedy rise in prices of land and property across the country did set-off an alarm in their minds, they knew that if this was not checked, it lead to a ‘bubble’ that could damage the housing industry and also seriously endanger the banking system.

It took measures to check the problem – the risk weights for all mortgage loans and relevant interest rates were raised. Gradually, the abundant liquidity enjoyed by the real estate industry began ‘drying up’.

As the cost of borrowings increased, the loan eligibility for retail buyers fell and increasingly the affordability factor started to pinch buyers. Meanwhile, the surge in global commodity prices was playing itself in the form of an ‘unforeseen rise’ in input prices. While, earlier the builder found it convenient to ‘divert’ project funds and book/purchase plots of land for future development (remember there is no law to enforce time deadlines for completion of ongoing projects), with rise in input costs, he was having to pay a very heavy price for all delays in project execution.

The only way out for the builder was to hike sale prices further. Thus the twin developments of rise in real estate prices and higher interest rates and hence lower loan eligibility led to a steep fall in demand for units. Builders who got hit by the falling sales and overall liquidity squeeze, put up a brave face, refusing to ‘reduce’ prices citing that they had ‘enough past profits’ to see them through the period of downturn. Of course these were stories circulated by the developers with the help of a friendly media (don’t forget the huge ad spends of builders) and the friendly brokers – buyers, who fell for it paid a heavy price, literally, both for the units they bought as well as the rates of interest on the loans.

With the last trickle of buyers, also, now deciding to ‘wait & watch’ before entering into a transaction, builders have finally woken up and started giving alarmist ‘sound bytes’ to the media. They are trying to paint ‘horror images’ of people losing jobs – but then that is the story across all industries today, thanks to the global liquidity crunch, and not restricted to the real estate industry!

The point is, sensible buyers (prospective) have understood that real estate prices are on the verge of a significant correction (I am deliberately not using the word ‘crash’ because the difference between the two is a matter of perception and perspective) and is waiting for ‘attractive prices’ and is clearly not in a hurry to finalize deals!

For policy makers, mortgage lenders and of course the RBI and NHB – the writing is on the wall – For the stable and sustainable development of the real estate and mortgage industry the time has come for the formulation of a ‘Housing Policy’ and the formation of a Central Authority to monitor and regulate the real estate industry, pan India. A look at the evolution of capital markets and the telecom industry in India, would obviate the need for a debate on this.

As for the Indian real estate developer, he still does not show signs of waking up to the reality of realty – because the cost of credit should reflect the inherent risks, appropriately!

*The reference to Mr. Hiranandani, is purely incidental, as he is a prominent and well-recognized face of the industry. This post does not reflect our views of him, personally or his group of companies. We feel our views would be vindicated if individual developers like Mr. Hiranandani (whose views on ‘affordable housing’ are well-known) take the lead in urging the Govt. for initiating the much required radical changes, which is the ‘crying, need of the hour’!

Caveat emptor (Let the buyer beware)!

We are in “The Age of consumerism” and that “Customer is King” sounds so hackneyed. The retail loan boom not only made the “dream home” come true for many but gave such a unusual fillip to middle-class ‘wants’ that analysts often cite the robust domestic ‘demand’ for all products & services which make India a unique market, globally.

Just how much of that new fangled demand is a sign of the ‘coming of age of India’ and hence, sustainable, is a question that begs to be asked, now, as like never before in the ‘glorious’ past 4-5 years. Perhaps, what also needs to be addressed in the same breath is the issue of standards of business practices, regulatory framework and laws providing protection to anybody – consumer or provider, whoever finds himself at the receiving end of unfair practices.

The phenomenon of easy availability of affordable retail loans, since the beginning of this decade, was seen as the single largest driver to the resurgence of the Indian economy from the slump it faced towards the middle to late ‘90s. Industries across the board - housing & construction, autos, consumer durables etc., have never seen better times.

This boom also created its share of problems – rising shortage of inputs in the face of burgeoning demand - skilled manpower, raw materials, power etc., all of this led to huge increases in the costs of all inputs, leading to inflationary pressures which forced policy makers, to take steps to check the factors which created the problem – Alas, credit is not cheap or easily available anymore!

Rise in prices had eroded ‘affordability’. While at the corporate level, the ‘difficulty’ was dealt with an ‘indifference’ or ‘helplessness’, at the individual level it became ‘nightmarish’. Imagine, a young professional and ‘well to do’ individual with a monthly income of more than a lakh of rupees, not being able to afford a modest 2 bed room flat in the suburbs of Mumbai!

As all things which tend to go up – whether it is yo-yos or water in a fountain – the stock markets which had gone up by more than 7 times between October 2001 to January 2008 – kept coming down without a bottom in sight, based on economic concerns, both local and global.

Globally, stock markets are seen as ‘lead indicators’ – they tend to fall or rise, earlier than the underlying problems or positives unfold, respectively. So even if the Indian stock markets fell by 60%, the manufacturers and service providers were still pondering – Are things really that bad? – They were in ‘denial’. So prospective consumers of goods and services thought, “Let me defer my purchase!”

As ‘push came to shove’, the clamor for a Government backed Bailout gained in strength – “after all, if that is in vogue in the US, how can India be behind?” Though India continues to lag behind the US in so many parameters – education, health, infrastructure – just to name 3 key areas.

Act I. - The bailout was announced by the Finance Minister – “All PSU banks have agreed to interest rate-cuts”. Confirmation soon followed by the banks, almost all the top PSU banks made announcements to that effect within 72 hours.

Act II. – A friend of mine who recently shifted his housing loan from a private bank (this bank had hiked the rate of interest a record 4 times during the period of October 2006 to June 2007) to a PSU bank, called up his banker (PSU) to ‘confirm the good news of rate cuts’.

He got a ‘rude shock’!

The banker explained, that, though, there is a change in the benchmark prime lending rate or BPLR, the pricing* (Price = BPLR +/- Spread) has also simultaneously been changed, effectively neutralizing the rate-cut. To simplify, e.g. if BPLR was initially 14% and the spread was (-) 2.5%, price was 11.5%. Now with the new BPLR = 13.25%, price instead of being 13.25% - 2.5% = 10.75% remains at 11.5% because the spread has been reduced from (-) 2.5% to (-) 1.75%. The friend believed that the ‘pricing’ of his loan vis-à-vis the prevailing BPLR was ‘fixed’ for the tenor of the loan.

The lesson to learn, from this small anecdote is that while, as a class Indian consumers are buying goods & services like never before, it is important that we do so with ‘due diligence’ as Caveat emptor (Latin for ‘Let the buyer beware’) puts the onus squarely on the ‘buyer’ to understand all relevant terms & conditions of the ‘sale’.

Also, this requires due attention from manufacturers & service providers (which in this case, includes the Govt. also!) – in terms of the quality of the product, its price and the after-sales standards. The law makers and the law keepers would also need to play a key role in proper regulation and defining the appropriate standards, as also ensure speedy resolution of complaints through investigation and imposition of suitable deterrents for ‘proven’ offenders.

If addressed with due care, the level of consumer confidence in Indian ‘brands’ will go up significantly - a leading bank should take note that its actions on a daily basis is more important than a 1 minute clip with a Bollywood-Badshah, trying to convince us about why he trusts the bank; and, in troubled times like these, they can make all the difference between the ‘worsening’ of the current slowdown and the resurgence of consumer and business confidence which can definitely help India shield itself from the global crises.

The superiority of the US economy is best understood by the numerous ‘global brands’ the country can boast of and make no mistake that it is the long standing and highly established reputations of these brands which have created “VALUE” as also, investing folklore and investing legends, in the long run.

An Introduction

ArthaNITI, the newsletter from Arthashastra Financial Planners (AFP), with its emphasis on "The Layman's Guide to Financial Freedom" makes its humble debut in blogspace today, the 5th of November 2008. Nothing special about the day itself, unless, you happen to be an optimist who sees 'the begining of history being made' - a cliche, for sure....unless a certain Barack Obama proves us (at Arthashastra) and his legion of supporters across the globe who view him as "Mr. Future" personified, wrong!

The significance of this moment may be optimistically captured in our aims of reaching out to the layperson, in guiding him/her towards achieving financial freedom, which according to us (at AFP) is essentially the #1 objective/motive for all individuals when it comes to viewing and working on their personal finances/savings.

As with the new US President-elect, we hope to create a vision (financially speaking) for the future through our postings, we would seek to provoke your thoughts, dear reader, by challenging the conventional, and we invite your feedback - both bouquets and brickbats would be welcome with the same openness of mind which we seek to create and build, both for ourselves and in 'you'........because we sincerely believe that the "time for change is NOW".

At AFP, we are sincerely excited about being at the right place - in INDIA (we believe we have a serious advantage, economically speaking, more about this in future posts); at the right time - bull markets are born on pessimism (the feeling is in abundance NOW); and, ofcourse in the right profession - financial advisory (we believe as a "collective group" we, financial advisors & intermediaries, can improve by leaps & bounds and there-in lies a BIG opportunity)!

A last word ...... the decision to write a blog was born out of a very convincing 'argument' put across by a good friend who articulated thus "In today's fast moving world we are all slaves to the habits we cultivate.....if you are able to create a niche for yourself through your blog, believe me it will be extremely useful in creating an identity for yourself....". The point that I am seeking to make is that, all innovations are born out of feedback, demand for improved service, criticism and so on.....we intend to keep our posts meaningful and precise....any deviation (if you see ONE) should necessarily be pointed out in a like-wise manner. Also, you can write to us about any topic of interest to you and we'll share with you our views - when we have one, which is useful.

We welcome you, to join us in our journey ahead!