Kuta Beach

Kuta Beach

Saturday, 20 March 2010

Perpetual Demand for Residential Real Estate

According to Boom Town Glad Rags Tell Only Part of the Story, an article on the Commonwealth Bank website, the author argues that describing the recent property boom as a "boom" is inappropriate because it implies a bust. The author believes that, unlike shares, residential property as an investment always goes up in value because demand always increases.

According to the author, "everyone needs somewhere to live, but not everyone needs or wants to invest in shares – so residential property has a widespread and ongoing level of demand that stabilises the market."

This idea that there is neverending and rising demand for residential real estate is completely wrong. Firstly it assumes that there is rising population because a falling population will decrease demand for accomodation. Many cities are growing, but many cities are facing population decline as well (e.g. Detroit, where you can buy a house for US$1.)

Many people use the everyone-needs-a-house argument to claim that residential property prices must always go up, but this is also not a good argument. Everyone may need shelter as a basic necessity, but this does not guarantee that house prices will go up. Let us assume that population does increase and in addition there is rising demand for houses. Even if there is rising demand for houses, prices won't necessarily go up because supply may increase to catch up with demand. Even if more and more people want houses, which pushes up prices, property developers see the high prices and take advantage of these high prices buy building and selling more houses. Many houses flooding the market would reduce the price. This is how the price of many necessities like food remain cheap. It is true that all humans need to eat food but that does not mean that prices of food will continue to rise forever and investing in wheat is a good idea because there are many farmers out there willing to provide food.

Some people will argue, "Yes, but land is fixed. They are not making any more land, so if demand increases and supply is fixed, then prices must go up." This is the argument used by Mark Twain. This argument is also quite poor, in my opinion, because even though land is fixed, accomodation is not. What we are looking at is the necessity of shelter. Shelter only requires four walls, a roof, and a floor. It is true that in order to have shelter you need land, but you don't need much. By building a residential skyscraper, you can accomodate thousands of individuals on one block. In fact, structural engineering is so advanced that we humans can live in incredibly high density. This idea that we are running out of land to provide us with accomodation is completely wrong. The world has plenty of land. It is just that many humans simply choose to live on lots of land because it is more luxurious. I would prefer to live on a massive ranch than in a small apartment, but if I had to pay one billion dollars per day for the former and only one dollar per day for the latter, I would go for the latter. A small apartment is enough for me to live in. I won't die from exposure to cold at night by living in a small apartment. It provides me with the four walls, ceiling, and floor that I need. If residential property prices keep rising, people won't necessarily be forced out into the streets to die. They will simply cram themselves more. Property prices all over the world have gone down, but in Australia they continue to rise. If it continues, houses will be more and more unaffordable, and if this happens then young people will no longer be able to afford houses and will continue to live with parents and developers will build high rises and cram more people together. Even if this doesn't happen (e.g. if developers have troubling getting their building plans approved by the government) then demand will fall because you cannot buy something you cannot afford. If property is becoming unaffordable then because you cannot buy something you cannot afford then the buying of houses will decrease by logic and therefore demand will fall, which will push down prices again.

Wikipedia has a list of countries and dependencies by population density. According to this, the world population density is 118.414 people per square mile (this calculation excludes oceans). The most dense country is Macau, which has a population density of 48,003.479 people per square mile. Macau has proven that you can fit 48,000 people into a square mile, but the world is only fitting 118 people per square mile. This shows that when it comes to making the human population more concentrated, we have the capacity to squeeze a lot more. We simply choose not to because many people like to live on a lot of land. However, we would not necessarily do so if it was too expensive. All luxuries have a price beyond which you cannot afford it.

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