India's real estate bubble to affect banks?

The  real estate market, as and when it falls, will  affect through channels of contagion to banks and financial institutions. Poor asset quality and excessive leverage in the sector will affect banks. The latter are already reeling under stressed assets and crystallized NPA. A real estate crisis  will prolong bank efforts at  repairing balance sheets. Systemic risk is thus high. 

The high levels of prices seen in the property market and the leverage associated with the real estate sector  is a matter of concern , if not worry to regulators. There is unsold stock. As the Government endeavours to restore its credibility, it will have to aggressively move to unearth money laundering channels. Housing sector in India is a parking slot for unaccounted incomes. Now that GOI has to move with stringent measures, (to restore its  image with the voters) against money launderers, fund flow in to the real estate sector will dry up. Informal channels have already started drying up. Demand will fall,  margins will fall and the real estate sector has the potential for overstretched borrowings.

It is against this background that the Reserve Bank has highlighted the need for prudence. In August, 2015,   the RBI Governor called for price mechanisms need to adjust -  "It would be a "great help" if realty developers sitting on unsold stock bring down prices…Once the prices stabilise, more people will be keen to buy houses."

Elsewhere the data reveals how bank interests are tied up to this sector"  the total amount of home loans given by banks grew by 15.6 percent to Rs 6,53,400 crore, over the last one year. In comparison, the overall lending by banks grew by just 7.3 percent. Home loans had grown by 17.1 percent to Rs 5,65,000 crore (in 2014) . The overall lending by banks had grown by 12.8%. Even though the overall lending growth of banks has crashed from 12.8 percent to 7.3 percent, home loans continue to grow... banks have given out Rs 88,400 crore of home loans in the last one year. This formed around 21 percent of all the lending carried out by banks. For a period of one year ending June 2014 and June 2013, home loans formed around 12.7 percent and 12.2 percent of the total loans given by banks." (http://www.firstpost.com/business/property-prices-must-fall-rajan-reads-out-the-riot-act-to-real-estate-wallahs-2401010.html) 

Both residential and  commercial property, have potential risks brewing. National Housing Bank studies indicated that as early as in 2014 , prices had started declining in 6 cities over the previous quarter with maximum fall observed in Chandigarh (4.4%) followed by Meerut (3.6%), Delhi (3.0%), Surat (2.4%), Dehradun (2.1%), and Lucknow (0.5%).

NHB also quotes an academic  study which reveals the significance of the sector to the economy:

• Housing sector is fourth largest employment generating sector.
• The residential construction (housing sector) accounts for 1.24% of the total output of the economy (total construction sector is 11.39%)
• 1.00% of GDP (total construction sector is 8.2%)
• 6.86% of the employment (total construction sector is 11.52%)
• 99.41 per cent of the jobs in housing sector are informal jobs.
• Its labour to output ratio i.e. number of persons employed to produce a lakh units of output, is 2.34 and is the highest among all the sectors.

So mortgage lending  needs keen watch. Banks' serviceability assessments may now be  based on over-optimistic judgments about the reliability of borrowers' incomes, or inadequate estimates of borrowers' living expenses, or it may well be that lenders  are not circumspect the possible effect of future interest rate movements.  

Flat buyers beware! Prices may have to fall in India if it has fallen in China!!!

Views expressed without any risk or responsibility. This blog recommends no investment.