A Small Fraction Of Land Developed Every Year In Indian Cities Is Subject To Market Forces

Leonard E Read, the founder of the Foundation for Economic Education, once perceptively noted that not one person in the world knows how to make a pencil. A pencil is a small object and we rarely give much thought to it. But the pencil you hold would not have existed without the effort of millions, perhaps hundreds of millions of people. The process involved in making a pencil is complex, at every stage of production beginning from sourcing of graphite to make lead to paper to wrap these pencils and then ship them.

Now, think about the miners, the people who cook for them, the people who farm, the people who produce ships, and the people who work in lighthouses and so on. Yet, a pencil costs you almost nothing because the market price system coordinates such activities. For example, if miners demand higher wages, more people will engage in mining, until wages fall again.

This doesn't completely hold true for the land markets in India. This is why housing is so expensive in Indian cities. People make decisions in the market all the time and these decisions match people with breathtaking efficiency. Neurosurgeons have more specialised skills than janitors do. This is how it should be, because an exceptionally skilled janitor does not exercise his judgment in life-and-death matters. Does this happen in land markets often enough?

Consider this: I own a three-storey building in Delhi's central business district, Connaught Place. I may not be able to rent out this property to a multinational corporation willing to pay me more. My tenants may not allow it, and norms that regulate rental markets protect them. I will not even be able to sell the building without the permission of my tenants. Even if I sell this property, no one may buy it. Why? The official rent of the building generated is negative, when adjusted with the cost of maintenance and other taxes. Is it likely that my property is used in the best possible manner?  Almost certainly not. If the real estate markets were efficient, I would have been allowed to rent out this building to anybody who pays me the most. This is important, because a firm or store that pays me the most needs central city real estate more. Otherwise, they would have been willing to pay so much for central city real estate. If such a firm does not perform well, they will be forced to relocate to a cheaper building somewhere in the suburbs or the periphery.

There are other problems as well. The demand for central city floor space is very high. In an efficient real estate market, firms and developers would be allowed to build more floor space in areas like Nariman Point and Connaught Place. Why? There is great demand for floor space, and this is the only way more floor space can be built in Connaught Place. If a three-storey building in Connaught Place adds seven more storeys, they will be easily able to recover the construction costs. This is not true of a three-storey building in a village in Bihar. Moreover, land parcels in Indian cities are fragmented, with weak property titles. So, building large residential or commercial projects on them is difficult. Land acquisition is difficult, and so is conversion, even when market demand is high.

According to former World Bank researcher Alain Bertaud, only one third of the new Greenfield developments in Ahmedabad were distributed through market mechanisms. Even though there is some variance, this is true of all Indian cities. But this is not true of most countries, except Cuba, People's Republic of Korea and a few other countries. For housing to become truly affordable, this has to change.

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