Business Standard

Govindraj Ethiraj: Manage interest rates, not prices

DOUBLE EDGE

Govindraj Ethiraj  |  New Delhi 

The last week called for price cuts in real estate— a reminder, prices are up anywhere between 300 to 450 per cent from mid-2004. He then said hotels must cut tariffs, He added that he was willing to look at excise cuts if asked. How consumer friendly, I say, except that industry is notorious for developing amnesia on excise cuts.

It’s a noble attempt nevertheless. Let me dwell on it a little more before I draw your attention to where I think one end of the problem lies. I for one continue to hold that the excesses in real estate, ranging from the stock market valuations (or now the lack of them) and the realtors’ rising influence in North Block, has been chiefly (though not entirely) triggered by 7 per cent interest rates.

I must also confess a subjective angle to the real estate argument. Which is that, among other things, I have seen the ugliest manifestation of the property boom— watching, for instance, as scores of beautiful independent houses in suburban Mumbai have been torn down in recent years. To be replaced by utter monstrosities which are not exactly trying to help the homeless.

The objective part is that the real estate market is still carrying all the ills of a bubble economy, from black money generated in ever greater sums to stock market fuelled riches, including stock option wealth which helped many people put down vast sums of money they would not have earned in normal times. Make no mistake, there is no moral case being made out here except to point to the bubble on the bubbles that were built.

Does the same logic apply to airlines and two-wheelers? I am not sure. Airlines and two-wheelers were broadly moving in the same direction. Sufficient, if not excess, capacity and cut-throat competition have kept air fares and two-wheeler prices low, to the extent that the airlines have been forced to near bankruptcy as they did not compensate for rising oil prices.

The flip side to the Finance Minister’s call is that no one is heeding it, or at least wants to. The realtors instantly responded with another plea for 7 per cent interest rates, or thereabouts. Bajaj Auto chairman said it was not feasible to reduce prices. Who's right? Thankfully, there is a reasonable free market on the consumption side now. To that extent, in industries with transparent pricing and low entry and exit barriers, a call for price management does not make much sense. So while it’s technically possible that a Bajaj Auto can bring down prices of two-wheelers, one could assume that competition is doing its job. At least I feel it is. Ditto with airlines, where fares are already edging down.

The real estate and hotel sectors work a little differently where the entry barriers have often been defined by historical and current abilities to capture or smartly corner land, legally or sub-legally. I would term apartment complexes built on land which once housed slums in Mumbai as sub-legal, since the land technically always belonged to the public. But that’s my definition, not for a court of law. The fact is that competition does not work as effectively in these sectors, for various other reasons as well.

An industrialist with considerable real estate interests (SEZ and otherwise) told me in Mumbai last week, “The problem is ego, nothing else. Most builders keep admiring their own projects and feel that high prices are a stamp of their success. So they hold on.” Many have suffered already, he said, and surely more would follow.

I would still think that a tight interest rate regime and falling demand will induce the suppliers of goods to cut prices and focus on inventory rather than ego. Tight interest rates affect demand too, as in home and vehicle loans, but the hit cannot and should not be taken by consumers! To that extent, the FM is right. So maybe he should ensure that lending norms for real estate companies are tightened, not eased. Yes, it’s an overall tough call whilst industry is screaming hoarse for rate cuts.

I have a more fundamental point, which links liquidity, demand and prices. Fact is, banks are and have been the only source for ‘growth’ capital. I was speaking with Prime Database’s chief Prithvi Haldea. His calculations show that Indian industry raised some Rs 180,000 crore last financial year through various capital market routes, both domestic and international. As things are going this year, the figure might just touch Rs 40,000 crore. Guess what his target in January 2008 was: Rs 275,000 crore!

So there’s the gap which industry was trying to fill and now cannot. Interest rates and cheap credit cannot fix such a large hole nor should it. What it does mean is that we all now need to hit the rewind button and go back to doing business as it was maybe three or four years ago. Or if that’s too inauspicious, hit the forward button and forget this year ever happened.

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Govindraj Ethiraj: Manage interest rates, not prices

DOUBLE EDGE

The finance minister last week called for price cuts in real estate— a reminder, prices are up anywhere between 300 to 450 per cent from mid-2004. He then said hotels must cut tariffs, airlines

The last week called for price cuts in real estate— a reminder, prices are up anywhere between 300 to 450 per cent from mid-2004. He then said hotels must cut tariffs, He added that he was willing to look at excise cuts if asked. How consumer friendly, I say, except that industry is notorious for developing amnesia on excise cuts.

It’s a noble attempt nevertheless. Let me dwell on it a little more before I draw your attention to where I think one end of the problem lies. I for one continue to hold that the excesses in real estate, ranging from the stock market valuations (or now the lack of them) and the realtors’ rising influence in North Block, has been chiefly (though not entirely) triggered by 7 per cent interest rates.

I must also confess a subjective angle to the real estate argument. Which is that, among other things, I have seen the ugliest manifestation of the property boom— watching, for instance, as scores of beautiful independent houses in suburban Mumbai have been torn down in recent years. To be replaced by utter monstrosities which are not exactly trying to help the homeless.

The objective part is that the real estate market is still carrying all the ills of a bubble economy, from black money generated in ever greater sums to stock market fuelled riches, including stock option wealth which helped many people put down vast sums of money they would not have earned in normal times. Make no mistake, there is no moral case being made out here except to point to the bubble on the bubbles that were built.

Does the same logic apply to airlines and two-wheelers? I am not sure. Airlines and two-wheelers were broadly moving in the same direction. Sufficient, if not excess, capacity and cut-throat competition have kept air fares and two-wheeler prices low, to the extent that the airlines have been forced to near bankruptcy as they did not compensate for rising oil prices.

The flip side to the Finance Minister’s call is that no one is heeding it, or at least wants to. The realtors instantly responded with another plea for 7 per cent interest rates, or thereabouts. Bajaj Auto chairman said it was not feasible to reduce prices. Who's right? Thankfully, there is a reasonable free market on the consumption side now. To that extent, in industries with transparent pricing and low entry and exit barriers, a call for price management does not make much sense. So while it’s technically possible that a Bajaj Auto can bring down prices of two-wheelers, one could assume that competition is doing its job. At least I feel it is. Ditto with airlines, where fares are already edging down.

The real estate and hotel sectors work a little differently where the entry barriers have often been defined by historical and current abilities to capture or smartly corner land, legally or sub-legally. I would term apartment complexes built on land which once housed slums in Mumbai as sub-legal, since the land technically always belonged to the public. But that’s my definition, not for a court of law. The fact is that competition does not work as effectively in these sectors, for various other reasons as well.

An industrialist with considerable real estate interests (SEZ and otherwise) told me in Mumbai last week, “The problem is ego, nothing else. Most builders keep admiring their own projects and feel that high prices are a stamp of their success. So they hold on.” Many have suffered already, he said, and surely more would follow.

I would still think that a tight interest rate regime and falling demand will induce the suppliers of goods to cut prices and focus on inventory rather than ego. Tight interest rates affect demand too, as in home and vehicle loans, but the hit cannot and should not be taken by consumers! To that extent, the FM is right. So maybe he should ensure that lending norms for real estate companies are tightened, not eased. Yes, it’s an overall tough call whilst industry is screaming hoarse for rate cuts.

I have a more fundamental point, which links liquidity, demand and prices. Fact is, banks are and have been the only source for ‘growth’ capital. I was speaking with Prime Database’s chief Prithvi Haldea. His calculations show that Indian industry raised some Rs 180,000 crore last financial year through various capital market routes, both domestic and international. As things are going this year, the figure might just touch Rs 40,000 crore. Guess what his target in January 2008 was: Rs 275,000 crore!

So there’s the gap which industry was trying to fill and now cannot. Interest rates and cheap credit cannot fix such a large hole nor should it. What it does mean is that we all now need to hit the rewind button and go back to doing business as it was maybe three or four years ago. Or if that’s too inauspicious, hit the forward button and forget this year ever happened.

image
Business Standard
177 22

Govindraj Ethiraj: Manage interest rates, not prices

DOUBLE EDGE

The last week called for price cuts in real estate— a reminder, prices are up anywhere between 300 to 450 per cent from mid-2004. He then said hotels must cut tariffs, He added that he was willing to look at excise cuts if asked. How consumer friendly, I say, except that industry is notorious for developing amnesia on excise cuts.

It’s a noble attempt nevertheless. Let me dwell on it a little more before I draw your attention to where I think one end of the problem lies. I for one continue to hold that the excesses in real estate, ranging from the stock market valuations (or now the lack of them) and the realtors’ rising influence in North Block, has been chiefly (though not entirely) triggered by 7 per cent interest rates.

I must also confess a subjective angle to the real estate argument. Which is that, among other things, I have seen the ugliest manifestation of the property boom— watching, for instance, as scores of beautiful independent houses in suburban Mumbai have been torn down in recent years. To be replaced by utter monstrosities which are not exactly trying to help the homeless.

The objective part is that the real estate market is still carrying all the ills of a bubble economy, from black money generated in ever greater sums to stock market fuelled riches, including stock option wealth which helped many people put down vast sums of money they would not have earned in normal times. Make no mistake, there is no moral case being made out here except to point to the bubble on the bubbles that were built.

Does the same logic apply to airlines and two-wheelers? I am not sure. Airlines and two-wheelers were broadly moving in the same direction. Sufficient, if not excess, capacity and cut-throat competition have kept air fares and two-wheeler prices low, to the extent that the airlines have been forced to near bankruptcy as they did not compensate for rising oil prices.

The flip side to the Finance Minister’s call is that no one is heeding it, or at least wants to. The realtors instantly responded with another plea for 7 per cent interest rates, or thereabouts. Bajaj Auto chairman said it was not feasible to reduce prices. Who's right? Thankfully, there is a reasonable free market on the consumption side now. To that extent, in industries with transparent pricing and low entry and exit barriers, a call for price management does not make much sense. So while it’s technically possible that a Bajaj Auto can bring down prices of two-wheelers, one could assume that competition is doing its job. At least I feel it is. Ditto with airlines, where fares are already edging down.

The real estate and hotel sectors work a little differently where the entry barriers have often been defined by historical and current abilities to capture or smartly corner land, legally or sub-legally. I would term apartment complexes built on land which once housed slums in Mumbai as sub-legal, since the land technically always belonged to the public. But that’s my definition, not for a court of law. The fact is that competition does not work as effectively in these sectors, for various other reasons as well.

An industrialist with considerable real estate interests (SEZ and otherwise) told me in Mumbai last week, “The problem is ego, nothing else. Most builders keep admiring their own projects and feel that high prices are a stamp of their success. So they hold on.” Many have suffered already, he said, and surely more would follow.

I would still think that a tight interest rate regime and falling demand will induce the suppliers of goods to cut prices and focus on inventory rather than ego. Tight interest rates affect demand too, as in home and vehicle loans, but the hit cannot and should not be taken by consumers! To that extent, the FM is right. So maybe he should ensure that lending norms for real estate companies are tightened, not eased. Yes, it’s an overall tough call whilst industry is screaming hoarse for rate cuts.

I have a more fundamental point, which links liquidity, demand and prices. Fact is, banks are and have been the only source for ‘growth’ capital. I was speaking with Prime Database’s chief Prithvi Haldea. His calculations show that Indian industry raised some Rs 180,000 crore last financial year through various capital market routes, both domestic and international. As things are going this year, the figure might just touch Rs 40,000 crore. Guess what his target in January 2008 was: Rs 275,000 crore!

So there’s the gap which industry was trying to fill and now cannot. Interest rates and cheap credit cannot fix such a large hole nor should it. What it does mean is that we all now need to hit the rewind button and go back to doing business as it was maybe three or four years ago. Or if that’s too inauspicious, hit the forward button and forget this year ever happened.

image
Business Standard
177 22