October 31, 2007
Expensive cities
A loyal Undercover reader writes:
Just wanted to ask if there is an economic explanation for the fact that real estate in cities in third world countries like India is often more expensive than in cities in the US. (Except for New York,and a few cities in California.)
Is there an explanation for this given the fact that purchasing power of people in India is far lower than in the USA? While India’s population is 1100 million compared to USA’s 300 million and the land area of India is around 20% of that of the USA, I don’t think that’s the reason for the high prices, as the situation in terms of density of population is not as bad as say Japan for example.
I did not have a satisfactory answer, except to wonder whether it is really true that real estate in third world cities is more expensive than in developed-world cities. Any thoughts?
Update: If I’d have known so many of you were already reading this blog, perhaps I’d have tried harder to think of an answer. Good comments below. And Felix Salmon has more.
Like politics, real estate is over local. The reason why real estate in mega-cities such as London, New York and Bombay is more expensive is simply because of the concentration of money in these places - they are the richest cities in their respective countries, which inflates the price of everthing, not just real estate.
In other words, the cost of living in such cities is higher simply because of the quantum of money that is available - there are lots of billionaires, and there is too much money chasing a very limited amount of goods.
I don’t think the most prime property in Bombay or Shanghai is more expensive than a comparable property in New York or London, because of distortions in exchange rates and a number of other factors. But in general, the richer the city, the higher the cost of living and the more expensive is real estate.
Posted by: Raj | October 31st, 2007 at 5:54 pm | Report this commentI believe this is true of a small number of third-world cities. My explanations would be: (1) there has been a large and sudden increase in the number of people being paid rich-country salaries in some cities (even though they are still a tiny minority of the population); (2) there is a truly tiny stock of housing that meets the standards of people being paid such salaries; and (3) planning and other controls (as well as limitations of the construction industry) make it difficult to build a great deal more such accommodation quickly.
Posted by: Martin Wolf | October 31st, 2007 at 5:59 pm | Report this commentOffhand, I would guess that it has more to do with comparison between a given city and the country in which it is located than with a comparison between two cities in different countries.
In other words, it is (apparently) better to live in New York City than it is to live in rural New York (economic opportunities would probably the biggest reason, but I would imagine several others exist). However, one could imagine that the same reasons could be magnified significantly in the developing world, such that it is FAR better to live in Shanghai than it is to live in rural China.
I have no data to back this up, but this is what occurs to me as the most probable answer.
Posted by: d.cous. | October 31st, 2007 at 7:06 pm | Report this commentWell, coming from Bombay(Mumbai). the city has expensive price as it the commercial capital in the country and actually is just 7 islands combined to make a city. So space is scarce. Most major companies in India and HQed here. Also the film industry Bollywood is located here. Space is scarce and there are a lot of rich people in Bombay. If you stand out on the road you will see a Merc in a minute, so due to the high concenration of the rich people here, prices are through the roof, and thus investments in Infrastructure by FII’s are increasing
Posted by: Ankit | November 1st, 2007 at 3:20 am | Report this commentHere in India, the normal budget hotels are still quite affordable - what’s become expensive is the five-star hotel room in metros like Mumbai or Bangalore. This is mainly because these hotels are showing more than 70% occupancy year-round and the sudden growth in demand has overtaken the supply rate.
Posted by: ayas | November 1st, 2007 at 8:47 am | Report this commentThere are many new 5-Star hotels planned, particularly in Delhi, for the forthcoming Commonwealth Games in 2010. However, the demand would still be higher than supply. And the prices will continue to soar simply because a lot of foreign nationals and Indian business travelers who are using these hotels are not price sensitive.
Great question. I was in Bundi, India for a week last year (small 75,000 population and relatively free of inflated and unnatural tourism economics). I could not believe the cost of rent for real estate in the inner city ($1,000’s per month for small shop even though you could not buy any goods for more than a few dollars/rupees). I agree, it did not seem to make sense for tenants to pay such high rents relative to their income. Other than the obvious explanation of land scarcity driving up rents for trade in major cities, significant bartering based on value and not inflated prices may also dramatically affect such rents in these less developed regions. In Bundi, bartering goods was the way of life and money was just used for trading capital (i.e. change).
Posted by: Doug Wolkon | November 1st, 2007 at 5:12 pm | Report this commentRealestate in downtown Bucharest, Romania is far more expensive, per square meter, than downtown prices in London or Paris. Don’t ask me why, but it’s true.
Posted by: Gabriel | November 2nd, 2007 at 10:40 am | Report this commentTwo reasons…scarcity and regulation-related distortions.
One thing a lot of developing cities have in common is terrible infrastructure. So, even though land around the city is available in plenty, ‘productive’ land is not. The costs of transporting goods into and out of cities can far outweigh the higher rent. So, people suck it up to stay in business.
With reference to government-induced distortions, I can speak for India as an example. Capital gains and income tax enforcement is a huge issue when it comes to gains from property. I have known of transactions where upto half the value was exchanged in cash (on homes worth $300K). This creates an enormous incentive to invest in real estate, thereby increasing prices further.
Posted by: skepmod | November 6th, 2007 at 10:00 pm | Report this commentBombay’s prices are particularly skewed because of the Bombay Rent Control Act of 1940. Read Suketu Mehta’s Maximum City: Bombay Lost & Found, for a brilliant explanation with examples. Incidentally, that book has nothing to do with economics and is one of the best books ever written about any city (No, I am not Suketu nor in anyway related to him, in case you are wondering).
But I still cannot understand why prices in Chennai, Bangalore etc. are going thru the roof - I’m pretty well off, but I cannot afford most of this stuff - where did we get all this money?!
Posted by: Bbayboy | November 7th, 2007 at 4:27 pm | Report this commentBombay’s prices are particularly skewed because of the Bombay Rent Control Act of 1940. Read Suketu Mehta’s Maximum City: Bombay Lost & Found, for a brilliant explanation with examples. Incidentally, that book has nothing to do with economics and is one of the best books ever written about any city (No, I am not Suketu nor in anyway related to him, in case you are wondering).
But I still cannot understand why prices in Chennai, Bangalore etc. are going thru the roof - I’m pretty well off, but I cannot afford most of this stuff - where did we get all this money?!
Posted by: Bbayboy | November 7th, 2007 at 4:28 pm | Report this commentAn observation..Being involved in the Indian wine industry, I have come across more than a few French wine industry people who scoff at the relatively higher agricultural land cost in India.. I was shocked myself.. Ofcourse I am not saying buying a piece of Bordeaux is cheaper than the hinterland in India!
Posted by: Ravi Gurnani | November 13th, 2007 at 2:12 pm | Report this commentAh this is exactly the same question i asked some blogger several months back. Infact the facts of the matter are of suh serious nature effecting millions of lives esp. in India. Even without considering tghe PPP and the median income statistics, an avergae Indian living in any of the 10 cities(only 10 cities in India actually employ people) is paying much more than a european or american even on a direct currency conversion basis and much much much higher as proportion of income that goes into housing. While others have give the reasons - density, noveau riches and demand supply mismatch, the only and only remedy is allowing skyrise buildings. As of now the country does not have any clue abt this and as is customary Govts in third world countries like India exist only to create more poverty by robbing the seemingly rich in as many ways as they could.
Posted by: Loknath | November 21st, 2007 at 5:19 am | Report this comment