Rising Input Costs: Are Mumbai builders back to their old tricks?

An industry that was poised to be strong on volumes and profitable may instead be setting the stage for going back into the past

Almost 18 months ago, there was a sharp debate between a former Brihanmumbai Municipal Corporation (BMC) top official and me on the reasons for elevated home prices in Mumbai. His position was crystal clear: Greed by builders is the driver for high housing prices in the commercial capital. My position was: Developer greed existed but had been now overtaken by exorbitant levies and taxes by government agencies. It was an academic debate then. Fortunately, soon thereafter the Maharashtra government announced a sharp cut in levies for builders. An industry which kept repeating that levies and premiums accounted for 30-35 percent of their project cost witnessed a bonanza sending new project approvals to record levels. The academic debate between the former BMC official and me would soon be tested in the real world.

I was waiting patiently and anxiously to claim victory. In the spirit of fair play in a debate – I must concede that it appears the argument has been won by the former BMC official. The first sign of it has come through a warning by the real estate association, CREDAI-MCHI, that home prices could rise 10-15 percent in April due to increasing input costs. Cost of materials like steel, cement, aluminum, etc has risen meaningfully in the last year.

Yet the argument for a price hike of 10-15 percent on the back of rising input costs is laughable in a city like Mumbai. Cost of construction is such a small component in the overall scheme of things in a housing project in Mumbai – that unless prices double, it barely even shows up. Rising cost of construction has serious consequences primarily for affordable housing projects. And it’s no secret that it's easier to spot a once-in-75-years-visible Halley’s comet than it is to spot an affordable housing project in Mumbai.

So why is the industry doing this spin of rising prices? At a simplistic level it is an unimaginative industry resorting to the old trick of luring home buyers to close deals. Simply put – keep talking about higher prices so that a home buyer will close deals soon.

Secondly – even if prices are raised at the quoted level, there is always an opportunity to close deals below the quoted price by offering discounts. Hence, there may be a price hike on the quoted level but the executed price will yet be at close to the old levels. (Exceptions at the project level aside).

Both the reasons are valid and will have some degree of merit. In my view, however, there is a third and more important reason for developers to embark on this narrative setting. And that reason is the forecast of a price war in the Mumbai real estate market over the next year. As I mentioned in a column two weeks ago, the cost waiver provided by the government until December 31 triggered a massive rush of new projects. Fifteen crore square feet was approved by the municipal corporation alone for development. Perspective: Sales in 2021 were four crore square feet. There is now a consensus that a supply rush at a low cost-structure by a fragmented industry will keep prices suppressed in Mumbai.

I suspect it is this widespread belief that the industry is looking to counter by talking about rising home prices. From a discussion about falling home prices in the future – the narrative is being pushed towards rising home prices in the future. I am not sure if this strategy is helpful. Narratives work only when ground reality is supportive. The industry and its consultants tried to advise in 2015/16/17/18/19/20 that it was the best year to buy a home. And it failed. The narrative existed. The reality didn’t. Pushed to the wall when all stakeholders including builders showed the determination to sell – the recovery began to happen.

Moreover, it's almost impossible for a cohesive narrative to hold in real estate that is dominated by a fragmented industry dependent on debt. A developer who has his meter running on a loan – how long will he look to keep the façade of elevated prices that are unattainable? My worry, however, is that in an industry that is often perceived as an echo chamber – there will still be enough developers who will fall for their own narrative and then get trapped in it. And thereby initiating a cascading impact that will end with a distressed home buyer.

It's a shame, really. An industry that was poised to be strong on volumes and profitable may instead be setting the stage for going back into the past. I may have lost the battle of arguments to the former BMC official but the war will be lost by the real estate industry.