The demand for housing units is inelastic to some extent but shortage of Pacca houses proliferates Katchi Abadies

Feb 20 - 26, 2006

Roti, Kapra aur Makan are three basic needs of every human being. In the civilized part of the world governments take the responsibility to provide these and the lesser responsible governments also ensure availability of these indirectly at affordable costs. The political upsurge in Pakistan in late sixties was also fueled by the popular slogan Roti, Kapra aur Makan. Interestingly most of the policies of present government are aimed at ensuring availability of these basic needs to all. However, it may be another thing that during this transitory period the percentage of people living below poverty line has been on the rise.

Demand for houses is driven by growing population and purchasing power. The demand is inelastic to some extent but shortage of pacca houses proliferates katchi abadies. Rising cost of construction is also responsible for the hike in real estate prices. Lack of housing finance facility also does not allow middle income people to own a house. According to some conservative estimates population of Karachi is estimated around 15 million. Besides normal population growth the number is on the rise due to massive influx of people from other provinces, in search of employment. Analysts are of the view that while the average population growth rate of Pakistan is around 3% population of Karachi is growing at a rate, which is above 5% per annum. Despite a lot of construction activity going on in the city, the demand just cannot be met.

Ironically there has been no regular and scientific population census of the city. There are estimates only, which range from 6.5 million to 15 million people. The lower estimates are based on the number national identity cards issued from Karachi. However, some experts are of the view that 25-40% people living in Karachi have cards, which have been issued from other cities. The worst outcome of the difference in headcounts is that neither the builders nor the civic amenities are able to plan for future demand for houses and other utilities. The natural outcome is that demand always exceeds supply. This on the one hand pushes up prices and rentals of houses and on the other hand proliferate katchi abadies. Since most of these katchi abadies are unauthorized these also lack basic amenities, i.e. electricity, gas and water.

There are three major input costs of construction, which are land, cement and other building material. Out of these cost of land has the largest share in total cost. It may not be true for villages, towns and small cities but is certainly true about large metropolises like Karachi. It has been almost quarter century ago that government had allotted/auctioned land for housing schemes. Even at that time land was sold through auction/open bidding or discretionary allotments were made. Since nor more fresh land has been offered to builders and developers they are forced to buy land from existing owners of old buildings, which have to be demolished first and then the new structure has to be built. According to some analysts rising prices of land are responsible for skyrocketing cost of housing units in the urban areas in general and large cities in particular. This has led to vertical expansion, construction of high-rise buildings. It is observed that till recently ground plus four formats was common in Karachi. However, now most of the residential buildings are being constructed on ground plus ten formats. This has put extras pressure on water, gas, electricity, telephone and sewerage networks.

Another factor contributing to higher prices of housing units is virtual absence of housing finance. Till recently, only one entity, belonging to public sector, used to provide loans for construction of houses. Though, some private sector entities have also entered the housing finance business, they have only limited funds at their disposal. On top of this the interest rate being charged by these entities is on the higher side. The higher rate is attributed to the fact that these entities borrow funds from financial institutions at KIBOR plus rates. On this they have to add their service charges as well as provisioning for delinquent loans. The outcome is that the rate being charged from the borrowers becomes almost double the KIBOR rate, which is certainly not attractive for the borrowers, particularly small and medium sized ones.

Since independence policy planners have not been able to develop proper housing finance facility. In the early seventies banks were nationalized and for decades House Building Finance Corporation (HBFC) remained the sole provider of housing finance. Apart from some internal inefficiency, higher interest rate and limited availability of funds never allowed the Corporation to become an effective and efficient player. On top of this slow recoveries and mounting receivables added to the miseries of the borrowers. In the recent past government started appointed CEOs of HBFC from the private sector. There results have been encouraging but limited availability of funds and higher interest rates remain serious impediments.

It may be true that HBFC has been carrying a huge load of delinquent loans but it was entirely due to its own fault. The existing foreclosure laws and lengthy legal procedure contributed a lot to render recovery efforts fruitless. Though, the government has amended these laws, it will take some time to streamline the system. However, some of the critics are of the opinion that even the previous laws were effective but their enforcement was very poor. They also say that the conditions are expected to improve with amendments of laws but more importantly due to the will to implement the laws.

The other factor responsible for rising cost of construction is the hike in cement price. It may be true that cement demand has virtually surpassed supply, which is the cause of rise in cement price, but more importantly skyrocketing crude oil prices is responsible for pushing up coal price in the international markets. The coal use is on the rise globally in power generation as well as cement production and rising demand is causing its impact on coal prices.

One may say that Pakistan has trillions of tons of coal and efforts should have been made much earlier to exploit these. It is only recently that some serious efforts have been made to get access to these reserves. Since road infrastructure leading to potential sites was missing heavy mining machinery could not be taken to actual sites and coal could not be mined. It was only recently that Chinese commenced work on mining as well as coal-based power plant in Thar.

According to experts at least 42 industries are directly or indirectly related to construction industry. A robust construction industry is major provider of jobs for unskilled labor. However, the resulting demand for products by the 42 industries also offer new job opportunities, help in poverty alleviation and above improved purchasing power pushes up demand for a lot of other goods and services. The 6.2% growth of the construction sector during last financial year is the highest since 1988. This growth probably reflects the overall boom in the real estate market. This growth has been fueled by rising private investment and higher development expenditures incurred by the government. However, it may also be said that housing finance at attractive rates has been the driving engine. Availability of housing finance at affordable cost has facilitated middle income groups in fulfilling their dream of owning a house. However, recent surge in real estate prices and hike in interest rates has affected disbursement of fresh loans. Though, the quantum has remained subdued, the demand is expected to remain robust.

According to the data housing finance business has remained mostly an untapped sector. The positive point is that it generated Rs 16.7 billion worth of mortgages in 2004. The figure may look attractive but it is too small keeping in view the immense potential, which is also endorsed by the central bank. With the consistently rising demand for housing units, regardless of hike in real estate prices, the mortgage business is expected to grow in vivid diversity. The government has taken initiative to provide enabling environment by to make the business more congenial for the financial institutions and to confidently extend loans to the consumers to avail such opportunities.

According to some sector experts housing finance business is growing at a very fast pace. About five years back there were only couple of players from the private sector. As against this now almost all the commercial banks are in the business of providing housing finance. It is on record that one of the big-five banks extended loans of about Rs150 million in one year. The experts also say that the growth potential can be gauged by the fact that nearly 50% of consumer financing consist of mortgage finance. This is only because the denomination of mortgage finance is far larger than auto and personal loans.

Owning a house of its own is a dream of every family. According to some experts most of the banks are offering housing finance and their target customers are the middle income group. This group is willing to pay as high as 10% per annum interest. This is very affordable for the average man as the difference between the monthly rent and installment for mortgage is shrinking. The banks are targeting the middle class as it can afford to pay only in small denominations, extending the loan to full term and thus banks gain the most of interest. This is acceptable by the target market as at the end of the day, they get to own the house which is any day better than living in rented house. The added advantage is that the monthly installment goes practically down with the passage of time.

The banks are still hesitant to undertake mortgage financing at a massive scale. According to some bankers it is only because firstly there are property regulatory differences, there are no proper processes, the government is not involved in the monitoring of price structures. Having said this they admit that the default rate is almost negligible but the biggest concern is about implementation of laws. Some bankers say actual implementation is very unlikely, which makes the very basis of mortgage shaky. Also, there is no regulation of real estate prices, and thus the real assessment of the land becomes difficult. Measures should be taken by the government to control land speculation activities. At times there is a lack of sufficient data on individual customers which lowers the credibility of consumers and at times banks are hesitant to extend loans to certain individuals.

Issues Hindering Growth of Organized Structures for Real Estate Investment

According to some analysts there are certain bottle necks which are hindering the growth of organized real estate sector in Pakistan. These are:

1. High rate of incidence of registration charges;

2. Significant portion of the real estate market being undocumented;

3. Historically the rules and regulations have had a tilt towards the tenant as compared to the owners; however, the condition is getting slightly better;

4. Weak foreclosure laws;

5. Rental yield is very low and currently is negative in real terms;

6. Although Modarabas in Pakistan have been used for real estate investments, the structure is not very conducive for all business transactions;

7. Land records are not properly maintained as a result of which there are instances of multiple ownership of the same establishment.

It is true that the government and financial institutions are trying their best to help people own a house. However, it is also imperative that borrowers should also learn to discharge responsibly by paying the installments in time and in full. It is expected that with the reduction in delinquent loans and timely payment, average interest rate would also come down and more funds would be available for disbursement.