New FM, same old songs? - The Honest Truth By Ajit Dayal
Investing in India - Honest Truth by Ajit Dayal
New FM, same old songs? A  A  A

When you tune in to a new FM, you hope to hear a different song.

So far, tuning in to what the new Finance Minister (also known as "FM") has to say - sadly - makes one hear the same old songs and tunes sung by the previous FM. It is uncommon that such warring individuals and political personalities should have such a common view on so many varied topics.

Whether it is on getting black money back to India - or on the right of a sovereign nation to tax its citizens retrospectively - not much seems to have changed. This FM is singing the same ragas as the previous FM.

Even the promises of "reforms are around the corner" or "I wish I could do more for the middle class" are dull notes full of crackle and repeated by previous FMs. Static from a bygone era that we wish to eradicate along with a party that has long lost its way.

To top it all, the continuous nagging of the Reserve Bank of India to cut interest rates is a mantra that seems to emanate irrespective of whether the FM is standing on the hills of the Vindhyas or the summits of the Himalayas.

Eventually every FM wants the RBI to do the dirty work to propel the economy to a higher level of growth - they ignore the simple levers under their control to boost GDP.

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Cut housing prices, not the rate high priced homes are financed at!
In any so-called free market economy, the "price" of a product is eventually determined the supply and the demand and supported by a "cost of production plus normal profit".

Real estate seems to be a product whose price is determined more by "who the real estate developer knows" rather than by any demand/supply equation.

Consider this: there is an estimated 650 million square feet or some 650,000 unsold, vacant apartments lying around the Indian economic landscape.
There is demand: millions of people wish to buy homes.
But the homes are not affordable - they are expensive.
The prices are beyond the reach of the buyer.

In any "free market", the price of this commodity (real estate) would have declined till a point was reached when people could afford it - transactions would increase, and the supply would evaporate as demand kicked in.

But real estate has not seen any significant price decrease, as such.
Transaction volumes have declined. But prices have remained at "elevated" levels.
Real estate developers are in no pressure to sell.
They have borrowed money from the banks (or made their suppliers borrow money from the banks).
The banks are mostly PSU banks.
PSU banks are owned by the government.
The government is run by politicians.
Politicians are partners with many real estate developers - or directly and indirectly own real estate firms.

So, if a PSU bank asks for the loan from a developer to be repaid on a due date, it is possible that a politician makes a phone call and tells the Chairman of the PSU bank - or the loan officer - to roll over the loan.
Maybe, by now, the PSU bank knows that the loan must be automatically renewed and rolled over.

The real estate developer is in no pressure to reduce the price of the unsold property.
They can wait - there is no money to be repaid to the bank.

To set this imbalance straight, the Finance Minister, the "owner" of PSU banks, should send out a one-line diktat: No loans to real estate developers must be renewed or rolled over.

Guess what would happen?
The free markets would work.

Knowing that there are loans to be repaid, developers would reduce prices to clear the unsold stock of 650,000 apartments.
Or, they could default and allow the banks to take over their projects as collateral for the bad loans.
The banks could auction the properties seized.

Individuals would buy the homes they need.
At prices they can afford.

They would then furnish these homes and buy white goods like refrigerators and ovens - maybe even a new 2-wheeler or car. Finally, after hearing speeches about the promised Ache Din, the general population would finally experience it!

All this economic activity from real estate will add over 2% to GDP (see Table 1).

Table 1: How Ache Din can boost India's GDP by 2%
Unsold Inventory (mn sq feet) 650
Avg size of apartment (sq feet) 1,000
Apartments unsold (number) 650,000
Selling price of each apartment (Rs per sq ft) 3,500
A: Value of all unsold apartments (Rs mn) 2,275,000
Money spent on furnishing each apartment (Rs / sq ft) 1,000
B: Money spent on furnishing all apartments (Rs mn) 650,000
C = A + B: Value of spending, if all apartments are sold and furnished (Rs mn) 2,925,000
in USD billion 47.18
As a % of GDP 2.36%
Source: Estimates from various sources and internal assumptions

With unsold inventory cleared out, sensible real estate developers looking to earn "normal profits" would build more homes adding to demand for cement and steel - and creating jobs.
The virtuous cycle would renew the economy.

No, Mr Finance Minister, if you wish to boost GDP don't ask the RBI to cut interest rates.
Instead, look inward and stop the PSU banks from lending money to real estate developers and their vendors.
Force the real estate developers to slash prices to spur demand and generate cash flow to repay their loans.
That will boost the economy - way beyond what a RBI cut would do.
It is time to sing a new tune and take on the powerful real estate - political establishment.
Are you up to it?

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Disclaimer: The Honest Truth is authored by Ajit Dayal. Ajit is a Director at Quantum Advisors Pvt. Ltd and Quantum Asset Management Company Pvt. Ltd. The views mentioned above are of the author only. Data and charts, if used, in the article have been sourced from available information and has not been authenticated by any statutory authority. The author, Equitymaster, Quantum AMC and Quantum Advisors do not claim it to be accurate nor accept any responsibility for the same. Please read the detailed Terms of Use of the web site. To write to Ajit, please click here.

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15 Responses to "New FM, same old songs?"

Kaustubh deodhar

Apr 2, 2015

Dear Sir,

what you are trying to tell is absolutely correct but how to sedn this to Mr. FM and ask for the reply

I heard we can write to FM or send some mail etc he has created some web site if anybosy knows we can post this article and asks a reply
if anw FM is really people centric he will reply


satish dabholkar

Feb 24, 2015

The new finance minister is a politician and not an economist.In the last nine months we have not found any single step from him to boost economy.Only his repeated song of asking RBI to reduce interest rate.This is the simple way to pass on he responsibility to some one else.
It is better he should be replaced as Congress is also laughing at him.



Dec 11, 2014

Well written and thought provoking article.



Dec 8, 2014

Superb arguments and logical. I fully agree to the views especially about the real estate industry. In fact, the views echo exactly as mine. I would like to add another point to the same... the issue of blackmoney generated by the real estate industry. This should also be checked and a procedure can be put in place to eradicate the demand for blackmoney.


Neel Singh

Dec 6, 2014

Good article on a powerful idea. the PSU banks can loan the money to more worthy projects /entrepreneurs. Overall this 'phenomenon' of using all the life time savings to buy a home HAS TO END for our country to enter the next level of growth, Also is there a way to stop 'Cash' dealing in this industry?

Like (1)

P Arulselvan

Dec 6, 2014

I see concerns being expressed about what happens to present owners if real estate prices fall--very reasonable.

I wish to put forth my own (counter) view on this:
Few months back onion was sold at 80 rupees a kg. Now the same is available at rupees 30.
Do I have to be happy or sad? Because I paid more money for the same article few months back.

*) Who bought properties at elevated rates--first-time home owners or speculators?
*) If we are worried about falling house prices, then our worry is really about the well being of speculators, not about the people who need a solid roof over their head.
*) At what price do we want to buy our houses--using 5 to 10 years' earnings or using our lifetime's savings?
*) When we buy our second home, or home for our parents, or home for our children, at what price
do we want to buy--at affordable prices or using the entire savings of a life time?
*) And if we use our life's savings to purchase a house, at what age are we able to hang up our boots, if at all we are able to?

I thank Mr Ajit Dayal for his sane view on real estate prices. Also, with reference to interest rate, one is made to wonder if politicians are more knowledgeable than the RBI governor.

Like (1)


Dec 5, 2014

N those who have bought houses at high interest rate?the debate is endless as what people do who have bought gold n silver at 32000 and 75000? Mr Dayal your aricle is very informative.thanks

Like (1)

V K Tewari

Dec 4, 2014

Very well explained; alas! we had honest politicians with public welfare as their supreme motive...

Like (1)


Dec 4, 2014

I think what Mr. Dayal has written is absolutely true.
What is the purpose of electing a new government if these changes cannot be implemented immediately???
The same rot may continue and the PSU banks will be in knee deep NPA's and only the shareholders will suffer.

Like (1)

Sunil Doshi

Dec 3, 2014

In Response to Mr.Amar: Yes, It is Unfair for those 20 who have already Bought.But it will hurt Only those among 20 who are Investors, as It will not Hurt much to those who are Using it for Residence.This Resident will start getting Return say after 5 years.Real Estate"Investors" have already Earned a lot in last 10 years, hence they are losing a part of their Profit and are not losing their Orignal Capital.Hence, Shri Ajit Dayal's advice is a Win-Win for all.

Like (1)
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