Monetary policy and real estate market

All central banks have well-defined monetary policies (MP) with specific goals and objectives. The objectives of the policy depend on the economic conditions of a country. But the common objectives of the MP are to control inflation and keep it stable at a desirable level, target GDP (gross domestic product) growth, control interest and exchange rates, support prioritised economic sectors, help generate employment opportunities and so forth. Real estate market has an important economic position in most of the countries around the world. Real estate epitomises a significant portion of most people's wealth and this is especially true for many homeowners in developed countries like the United States, Japan, the United Kingdom, Germany, France and many other developing countries as well. Size and scale of the real estate market make it an attractive and money-spinning sector for many investors. Real estate market always gets direct qualitative and quantitative supports by the MP of central banks as this sector contributes significantly to GDP of a country.
Real estate is an important sector of investment. And in many countries, it makes up the largest share of wealth. For instance, in the United States, real estate accounts for roughly a third of the total assets held by the non-financial private sector. The average American has nearly one-third of his or her net worth tied up in real estate, translating to a valuation of nearly $20 trillion dollars for the entire market. The majority of households tend to hold wealth in the form of their homes rather than in financial assets. In France, for example, less than a quarter of households has own stocks but nearly 60 per cent are homeowners.
Movements in property prices in the real estate sector affect aggregate demand and economic activities in various ways. Firstly, mounting property prices lead to more optimistic expectation of returns on investment in real estate sector. As a result, realtors start new construction and market demand in properties in real estate sector rises. Secondly, rising property prices encourage households to increase private expenditure and therefore, provide a strong support for private consumption. The active role of real estate prices in the conduct of monetary policy has attracted much attention among researchers and policymakers in recent years. There has been widespread indication that property price movements have a large influence on private consumption and the real economy.

The linkage between property prices and aggregate demand advocates that the monetary authorities can benefit from monitoring developments in property markets. The view that policymakers should respond to excessive increases in property values which are indexes of excess demand in the economy as a whole has received much empathy within central bank circles. In particular, monetary policy-makers need to identify sources and nature of property price oscillations in order to understand their implications for price constancy and the general economy, and then to initiate appropriate policy response.
The monetary policy of the central bank of a country should be supportive to banks and other financial institutions and investment-friendly, not hostile to investment. Bank lending is the primary source of real estate funding; not astoundingly, there are close connections between real estate prices and bank credit. Fall in property prices can lead to a large-scale decline in asset quality and in the profitability of the banking industry, particularly for those banks that are profoundly involved in property or property-related lending businesses. They also subvert the value of bank capital, squeezing the banks' lending capacity. On the other hand, banks' lending defiance has important implications for property prices. Bank credit to property buyers, constructors and realtors may change the balance between the demand and the supply sides and cause property prices to oscillate. Interest rates also have a major impact on the real estate markets. Changes in interest rates can greatly influence a person's ability to purchase a residential property. That's because as the interest rates fall, the cost to obtain a mortgage to buy a real estate property decreases creating a higher demand for real estate. Contrarily, as interest rates rise, the cost to obtain a mortgage increases, thus tumbling demand and prices of real estate.
Fluctuations in the price index of real estate market may have significant effect on the performance of banking and financial institutions. Particularly, falling property prices may lead the banking sector to serious distress through increases of real estate bad loans, through a deterioration in financial conditions of borrowers and banks themselves and indirectly through contraction in financial transactions and in economic activities. The real estate sector's growth and development mostly depend on the monetary policy of the central bank. When the borrowing costs of this sector increase due to high interest rates not controlled by the central bank,  availability of fund with unfavourable and rigid terms acts as a deterrent to growth and development.
The credit risk, however, is not restricted to the real estate sector. Because, real estate assets are also widely used as collateral for other types of loans. Fluctuations in property prices would have a broader impact on the banking industry through the balance sheet effect. When real estate prices fall, a typical borrower is more likely to face financial constrictions in the form of reduced borrowing capacity. These restraints limit the scale of new investment and reduce the profitability of corporate firms. As a result, the credit risk exposure of other types of bank loans increases as well, impairing the brittleness of the banking sector.
The real estate sector of Bangladesh, an overpopulated country with very limited land for living, has been writhing financially for the last few years and remains in the most vulnerable position in comparison with developed and developing world. China's slowdown, which has cast a shadow over the global economy and nervous investors around the world, shoots in part from a deep nose-dive in its crucial property market. Now that crash appears to be easing, as construction cranes return to some cities and real estate offices in some of the best neighbourhoods fill up again with buying customers. Prices for new homes in the country's biggest cities are rising, led by the southern boomtown of Shenzhen, where prices jumped a staggering 62 per cent in March, compared to the same period a year earlier, according to official data released recently. Some economists guesstimate property accounts at as much as a quarter of China's gross domestic product. According to data released, real estate is now the fastest-growing component of China's economy. In the first three months of the year, the sector's contribution to gross domestic product rose 9.1 per cent from the level of a year earlier. The Chinese government put forward additional fiscal policy to support the property market.
Real estate sector in our neighbouring country India has been getting huge support from its central bank and the government. Lowering of basis points, the ease in FDI policy, and the introduction of smart cities are just some of the decisive factors that have given a shot in the arm of real estate sector. Buyers are being incited with all kinds of help to make them invest. Moreover, lower interest rates for housing loan have further improved the scenario. China and India are real examples of how MP and fiscal policy could accelerate real estate sector economy.
The monetary policy statement (MPS) of the central bank of Bangladesh was recently released for July-December 2016 period. After going through the MPS, it's noticed that MPS is quite silent about the sluggish and dilapidated real estate sector. Neither any policy support, nor any proposal nor any allocation of fund in the form of easy and accessible terms is available. Realtors, housing societies and general people are suffering from scarcity of housing. But the MPS has failed to address the issue.
When Bangladesh has been striving hard to increase its GDP and reach middle-income status, there's no scope of ignoring an important economic sector like real estate that provides employment to millions of people, support hundreds of backward-linkage industries, contributes a significant percentage to GDP, supports the government by paying income tax, VAT, registration fees, Stamp Duty, Property Handover Tax, city corporation tax, municipal tax and many more. A comprehensive study report on the real estate sector of Bangladesh, sponsored by Real Estate and Housing Association of Bangladesh (REHAB), has revealed that 89.3 per cent of the respondents thought lack of water, gas, and electricity connection on due time is badly affecting the growth of private real estate sector. About 64.6 per cent of the respondents believed that due to difficulties in getting bank loan and high interest rates, the growth of private real estate sector is slowing down and buyers are unable to fulfill their housing needs. Ensuring housing for all is the prime requisite for development of a country. Bangladesh can't be an exception.
The writer is a CFO of a private group of industries and a Fellow member of ICAB.
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