Affordable housing - just build it!

Sharon Barnhardt and Co have an NBER working paper which provides empirical proof for the widely held belief that slum relocation beneficiaries sooner or later go back to squatting. They examined the impact of a lottery-based allotment for a low-income housing colony in Ahmedabad, which moved people from a city-center slum to the suburbs. They tracked the 110 families over a 14 year period and found,

Fourteen years later, relative to lottery losers, winners report improved housing farther from the city center, but no change in family income or human capital. Winners also report increased isolation from family and caste networks and lower access to informal insurance. We observe significant program exit: 34% of winners never moved into the subsidized housing and 32% eventually exited. Our results point to the importance of considering social networks when designing housing programs for the poor... Our findings suggest that alternative policies such as neighborhood-wide relocation programs may be more appropriate for slum- dwellers. Alternatively, slum upgrading programs that do not try to move people at all may be a less wasteful approach to public housing policy in developing countries.

At a theoretical level, this is a reinforcement of the Schelling segregation model, where forced admixture of heterogeneous communities invariably result in desegregation. I have blogged about it in the context of housing and school choice.  

However, the policy takeaways suggested are pretty much dead-ends. Neighborhood-wide relocation runs into the constraint of land availability. As to slum upgradation by redevelopment (PPP or not), it is too complex and challenging to do in any reasonable scale. Slum upgradation by improving infrastructure while keeping the existing stock runs into execution challenges (5-10 feet roads, and that too varying widely, makes infrastructure augmentation a nightmare, even an impossibility) given the extremely congested nature of most slums and squatter settlements. If, for implementation in scale, upgradation of any kind is less that satisfactory and neighbourhood relocation is prohibitive, then we are left only with relocation to the suburbs as a decidedly second-best alternative. 

This blog has consistently held the view that it may be a wrong framing to assess low income housing programs in terms of its ability to retain residents. Such programs, including the recently launched Government of India's Housing for All program, should be seen as instruments to increase the supply of formal affordable housing stock. At a time when land has been priced out of the reach of low income households, any low-income stock addition happening is basically in the informal sector, most often by way of densification of already congested slums and squatter settlements. 

In fact, in view of the near absence of formal affordable housing, the low-income migrants in any case mostly squat in the suburbs. The units sold away by the original allottees are merely transferred to the newer migrants, thereby providing formal low-income housing for them. The relocation colonies, by adding to the housing stock, are actually limiting the further slumification of the city. 

Further, given the implementation challenges (identification etc), resource constraints (massive demand likely from new migrants), and the political difficulty associated (with targeting newer migrants when older ones are themselves without housing), this process of internal transactions between the original beneficiaries and the new buyers may be a less-distortionary and acceptable second-best affordable housing strategy. This would be the case even with the inevitable political cronyism that accompanies such transactions.

Indian economy weekend reading links

1. Livemint points to an Fitch Ratings report which claims that banks may have to take haircuts amounting to more than a trillion rupees on their exposures to power, roads, steel, and other infrastructure sectors. It is estimated that nearly Rs 93000 Cr would be on public sector banks.

2. The RBI's latest survey on capacity utilization shows that in the manufacturing sector, it has plunged to its lowest level is seven years for the March-April quarter. Business expectations index too is declining sharply. Make in India is clearly facing very strong headwinds.

3. Mary Hallward-Driemeier and Lant Pritchett (via WSJ here) find "almost zero correlation" between the World Bank's popular Doing Business Survey's and the surveys of business enterprises done by the Bank and others across the world. The former is based on surveys of local lawyers, accountants, and other professionals and their estimations of the time and cost of complying with local regulations. The latter asks firms themselves about the costs and delays they actually deal with. 

They find that, on average, the amount of time companies tell surveyors they spend on obtaining construction permits and operating licenses, and importing goods is "much, much less" than that recorded in the DB Survey. They attribute the divergence to the "gulf in poor countries between the laws and policies that exist on the books and the ones that prevail - or perhaps don't prevail - in reality". They write,

It is commonly observed that policy implementation often deviates from the stated policy in firm-specific ways, but this hypothesis has not been easy to document. It appears that when strict rules meet weak state capability—or, more broadly, “institutions”—the rules bend and become more like individuated “deals” where outcomes are not the result of a neutral application of policy to the facts but rather have to be negotiated case by case... Given our evidence, it is a completely open question how reforms that altered the Doing Business indicators will actually affect the investment climate that most firms actually experience... firm performance was affected by measures of the variability of the policy implementation they faced, more so than the level. From this perspective, one can imagine that initiatives that have minimal impact on de jure policy but which signal a decisive shift in policy implementation might have substantial impacts on investor expectations and initiate an acceleration of growth. 

This carries a note of caution for countries like India, which have made the DB Survey the basis for their ease of doing business interventions. Tweaking the form (rules and regulations) without strengthening the state may not be very effective. Even with the best-practice form, the real constraint will be the state capability. 

4. Talking about enterprise surveys, here is a comparison of the findings from World Bank's enterprise surveys from 2006...

... and 2014 (9281 firms chose the biggest constraints among 15 business environment obstacles).

Electricity, tax rates, and corruption are the top three in both, though the informal practices and access to finance have recently emerged as important constraints. Note that labour regulations etc are marginal constraints in both periods.

5. I had blogged earlier urging caution with India's metro rail ambitions saying that global experience shows that farebox recovery ratios on railways can rarely cover half the operating expenses. Business Standard has this examination of the operating balance sheet of the Delhi Metro Rail Corporation (DMRC),

In FY14, the latest year for which DMRC finances are available, the company produced a meagre Rs 9 in revenue for every Rs 100 worth of investment in fixed assets. Specifically, the utility generated revenues of Rs 2,952 crore on a gross block of Rs 34,385 crore in FY14... Given the current interest rate of 10 per cent, a similar depreciation charge and 15 per cent expected return on equity, the capital cost for DMRC works out to be around Rs 7,500 crore per annum. Throw-in the running and maintenance costs, the DMRC system would need at least Rs 10,000 crore worth of revenues to be financially viable in the conventional sense.

DMRC operating expenses were Rs 2,136 crore or 72 per cent of its revenues from operations.The above calculation doesn’t show in DMRC numbers because it has been liberally capitalised by the government. At the end of FY14, DMRC paid-capital (or seed capital) was Rs 14,187 crore twice that of NTPC and three-times that of Power Grid Corp, two of the most capital intensive government owned companies. Besides, government tops-up DMRC equity base every year with Rs 2,100 crore pumped as equity in fiscal 2014 itself. The debt part of the DMRC has been taken care of by concessional loan from Japan’s Overseas Development Agency (ODA) at the rate of 2 per cent with 10 year moratorium on interest and principal repayment. A private sector enterprise will never get this comfort.

6. That India's power sector is in a mess is well known. Livemint points to a recent ICRA report which has a few interesting factoids about the dismal story,

In fiscal 2015, power deficit had reduced to 3.6%, but that is just the reported number. Ratings agency Icra Ltd reckons that the actual power deficit is 15%. Simply put, power plants are idle at such a high level of power deficit because state electricity boards are not buying. In the June quarter, merchant demand on the exchanges declined 22.3% from a year ago. Even on a sequential basis, it fell 9.3%, despite it being high summer. The last major power purchase agreement signed by a state electricity board was Kerala in 2013.... The accumulated losses of state discoms at the end of March 2013 were close to Rs.3 trillion. Wiping out these losses will take time. Even to recover regulatory assets—those expenses approved by state electricity regulatory commissions for recovery through future tariffs—over a period of five years, tariff hikes as high as 23% would be required in some states, such as Rajasthan.

Update 1 (21.08.2015)

More on the DMRC's finances, a foretaste of what is to come from other metros,

DMRC earned a total revenue of Rs 3,198 crore in 2013-14, including Rs 1,364 crore (43 per cent) from fare box collection and Rs 1,833 crore (57 per cent) of other revenues, including those from real estate, consultancy and external projects... The growth in revenue from fare box collection, the company’s core area of operation, has dropped sharply from 80 per cent in 2010-11 to 11 per cent in 2013-14, the latest year for which numbers are available. Also, the share of other revenues in the total revenue has risen from 43 per cent in 2009-10 to 57 per cent in 2013-14. Further, the company’s total expenses jumped 29 per cent to Rs 2,006 crore in a single year ending March 2014, indicating how profitability came under pressure. DMRC’s fares were last revised in 2009 when the minimum fare was raised from Rs 6 to Rs 8 with the maximum fare raised from Rs 22 to Rs 30. For comparison, consumer price index (CPI)-based inflation stood at 9.9 per cent a month on an average for the five year period between 2009 and 2014.

India's health care challenge in two graphics

Two graphics from a Livemint inforgraphic series on India's health care system sums up the enormity of the challenge that the country's health sector may be facing.

First, like with suppressed demand of electricity (which, ironically, makes state governments who resort to 12-14 hour power cuts claim that they are power surplus!), India appears to have a massive suppressed demand for health care services, which may be reflection of the public health care access deficit. Cross-state data on illness reporting and hospitalization rates from the NSSO national health survey 2014 reveals an inverse correlation between illness reporting and hospitalization rates and the state's social indicators (and presumably per capita incomes). 

In other words, a large share of people in the country's poorest and most backward areas do not even report illness or show up in hospitals. Describing them as "missing patients", Livemint writes,

The NSSO report put the average figure for people reporting illnesses in rural India at 8.9%. But if one assumes that the true extent of under-reporting is the difference between the national average and that between the top five states in terms of reported illnesses (excluding Kerala, given that it is likely to be an outlier), the true national average will then be 15.6%. In other words, 6.7% of the rural population, or roughly 55 million people, is missing from the official estimate of the ill.

The graphic below captures the same data stratified based on rural and urban incomes and shows the inverse relationship (admittedly, some of the difference may be a measure of differences in lifestyles etc) between incomes and health outcomes,

Since poor quality of public health care facilities and affordability are arguably important contributors, this graphic on the rate of increase in health care costs is a cause of great concern.

In simple terms, even as there exists massive under-reporting of illness, undoubtedly atleast partially due to access problems, the rising health care costs are pricing more people out from accessing health care. 

China urbanization fact of the day

From a Brookings study (pdf here)of 100 largest metropolitan areas in the Asia Pacific region (East Asia, Oceania, western parts of North and South America), this factoid and graphic about China and rest of the world is simply staggering,

Chinese metro areas averaged 11.2 percent annual GDP per capita growth since 2000, compared to just 1.3 percent per year in the rest of the world’s major cities.

As this FT feature, which chronicles the downside of the Chinese urbanization, informs, urban area's share of population surged from about 20% in 1980 to over 50% now, and share of GDP has grown from nearly 70% to more than 90% in the same period.

China's much-discussed quarter century of economic growth in general has been spectacular, but in particular its less discussed urban growth has been unprecedented. The country's sustained and rapid urbanization, managed without much of the problems of unplanned sprawls and slum proliferation that characterize the same in countries like India, should count as arguably its biggest social and political achievement. Unorthodox, 'second-best', instruments like hukou permits, development of satellite townships etc have doubtless played an important role in managing the inevitable externalities and problems associated with rapid urbanization.

The problem with 'best-practice' models

This blog has consistently held that India's implementation deficit is largely a reflection of state capability weaknesses. This weakness is often amplified by the embrace of best practice models. As the cliche goes, "best becomes the enemy of the good" and to rephrase Dani Rodrik, scalable best-practices  are "second-best, at best". Ricardo Hausmann makes a reference to this in his most recent Project Syndicate article.

Consider the example of any regulation which provides the best-practice protections to consumers. In developing countries, many goods and services are offered without the full range of consumer satisfaction standards. They range from product development to safety to functional to servicing requirements. In fact, a significant portion of the value chain of the product or service is typically done in the informal sector. All this naturally lowers the cost of production and producers pass on atleast a share of the savings to consumers in the form of lower prices.

Accordingly, the plastic or steel vessels purchased at your local store, haircut from the 'barber shop', and driving lessons from the neighbourhood 'driving school' are cheap and affordable. Much the same applies to an apartment unit bought from the local developer. Alternatively, for the buyer, the transaction cost associated with the risk of buying a house without clear land title, construction quality assurance, and delivery time commitment is offset by the cheaper price of the housing unit. In an extremely price-sensitive market, such sub-par production, product/service-quality, consumer protection and servicing standards engenders a low-level equilibrium. I have blogged about similar low-level equilibriums in public service delivery here, here, and here. 

In this context, best practice regulation, which seeks to formalize and standardize processes and quality standards, can have unexpected consequences. One immediate impact is that the cost of production rises as the layers of processes and standards take effect. This in turn prices out a large share of the consumers, leaving a market for that product or service which is unaffordable for the vast majority of consumers.

Another effect is that it amplifies state capability weaknesses. Higher standards in an environment where even the lower standards are not effectively enforced is a recipe for more failures. Worse-still, since producers will struggle to comply with the increased requirements at their prevailing (or even slightly higher) price points, it increases the opportunities for harassment and rent-seeking by inspectors and other public officials concerned with monitoring the rule.

Finally, these best-practice models increase informality. As the cost of compliance increases, firms prefer to go informal so as to continue servicing their existing customers. Perversely enough, the quest for higher standards would end up lowering the informality threshold and increasing the share of the informal sector in the market for that product or service.

Such reform attempts fail because its proponents only ask, "what is the best strategy to improve the quality of a good or service?". Instead, the question should have been, "what is the best strategy to improve the quality of the good or service, conditional on the market constraints and enforcement capability of the public system?". We just can't wish away the real world! 

India excess capacity facts of the day

I have blogged earlier about India's excess capacity problem and called it an investment demand constrained situation. From Livemint, about capacity over-hang in hotels market,

More than 100 planned hotel projects in India are in limbo, some stuck for as long as five years, as the sector suffers from overcapacity in an economic slowdown... According to JLL India data, around 30 projects planned by Hyatt Hotels are on hold, while 18 Marriott projects have failed to take off. Accor Hotels... has 17 stalled projects. Starwood... has 5 projects stuck... Hotel occupancy in India has steadily declined from about 75% in the last decade to about 60% between 2011 and 2014.

From a just released Knight Frank report on the weak demand in India's real estate sector,

Over 7 lakh housing units remain unsold in eight major cities and it will take more than three years to exhaust the inventories... Mumbai Metropolitan Region (MMR) has the maximum unsold inventories at 1.95 lakh units followed by Delhi-NCR 1.9 lakh homes as on June... Housing sales dropped by 19 per cent to 1,10,300 and new launches by 40 per cent to 95400 during January-June 2015 in eight cities compared with 1.6 lakh units the year-ago period. These cities are Delhi-NCR, Mumbai, Bengaluru, Pune, Kolkata, Chennai, Hyderabad and Ahmedabad.

And from the automobiles market, 

According to Siam data, Indian auto makers sold 3.22 million passenger vehicles in 2014-15 in the domestic and export markets, out of their annual capacity of 4.96 million, which is 65% of their overall capacity. However, this percentage worsens if one takes out Maruti Suzuki India Ltd, Hyundai Motor India Ltd and Honda Cars India Ltd, all of which utilize at least 80% of their capacity... Despite the low utilization, there is massive capacity expansion under way at Maruti, Honda and Mahindra and Mahindra Ltd. Once that happens in the next two-three years (see chart), the total installed capacity will reach 6.9 million units: a situation worrying enough for Kirloskar... According to forecasts from leading consultants... the Indian passenger vehicle market will see 4.44-5.3 million sales annually by 2020. That still leaves around two million in excess capacity, which the auto makers will look to utilize via exports. But experts believe that will be a mammoth task.

For an economy at the cusp of taking-off into the middle-income trajectory, this is a matter of serious concern. Given that production has been stagnant across sectors, one wonders how much the "missing middle class" contributes to the weakness in demand. 

Weekend reading links

1. Martin Ford, author of the Rise of Robots, has an oped in NYT where he says,

Midea, a leading manufacturer of home appliances in the heavily industrialized province of Guangdong, plans to replace 6,000 workers in its residential air-conditioning division, about a fifth of the work force, with automation by the end of the year. Foxconn, which makes consumer electronics for Apple and other companies, plans to automate about 70 percent of factory work within three years, and already has a fully robotic factory in Chengdu.

Even assuming some hype associated with the numbers, the pace of displacement is truly staggering. It assumes great significance for countries like India which have staked its economic growth and job creation fortunes behind manufacturing. While the initial trends in India are not alarming, the global experience does not lend much comfort.

2. Fascinating article on Phantom, the high-end audio speaker, developed by Devialet, the French acoustics engineering firm. This nugget about the Phantom was stunning,

There are only 10 separate parts inside the Phantom and not a single wire. 

3. Stephanie Flanders captures the dismal world trade scenario

The latest World Trade Monitor showed the volume of world trade falling in May by 1.2 per cent. It slid in four out of five months in 2015 and risen just 1.5 per cent in the past 12 months — less than the growth in global output and far below the long-term average of about 7 per cent a year... A recent study by the International Monetary Fund calculated that in the 1990s, every 1 per cent rise in global income generated a 2.5 per cent rise in global trade, much more than in the past... Since 2013, every 1 per cent of global growth has produced a trade bump of just 0.7 per cent.

This trend has to be the context to view India's new Foreign Trade Policy, 2015-20 which seeks to nearly double exports from $465.9 bn to $900 bn by 2019-20, an annual increase of about 12%!

4. At a time when the rapidly expanding share of Indigo Airlines, nearly 40% of the total domestic traffic, has raised concerns about monopoly in the Indian airline market, Economist points to an Associated Press study report that has some very interesting statistics about the US airline market,

At 40 of the 100 largest U.S. airports, a single airline controls a majority of the market, as measured by the number of seats for sale, up from 34 airports a decade earlier. At 93 of the top 100, one or two airlines control a majority of the seats, an increase from 78 airports... The four largest airlines control more than 80 percent of the U.S. market... 

In Indianapolis, the two leading airlines controlled just 37 percent of the seats a decade ago, and domestic fares were 9 percent below the national average. Then the city’s main airline, ATA, went bankrupt and was bought by Southwest, and its No. 2 carrier, Northwest, was absorbed by Delta. Now two airlines control 56 percent of the seats, and airfares are 6 percent above the national average. The Dayton, Ohio, airport was served by 10 airlines in 2005, and fares were 5 percent below average. Today, just four airlines fly there and prices are almost 10 percent above average. Big hub airports aren’t immune. In 2005, US Airways controlled nearly 66 percent of the seats in Philadelphia. Now that US Airways has merged with American, the combined airline has 77 percent of the seats. Airfare has gone from 4 percent below average to 10 percent above it. Delta’s hold on Atlanta, the world’s busiest airport, increased during that same period from 78 percent of seats to just over 80 percent. At the same time, low-cost AirTran merged into Southwest and reduced flights there. Domestic airfares at the airport went from nearly 6 percent below average to 11 percent above. Some cities are actually seeing lower fares than they did a decade ago. Prices in Denver were once 5.6 percent higher than the national average. Now that United’s market share there has dropped to 41 percent from 56 percent, fares are almost 15 percent lower than the rest of the country.

This market concentration is in some ways inherent in the conventional hub-and-spokes model of airline market. Even in the largest airports, it would not be competitive for more than an airline to operate hubs in one airport. Once a hub is established, the destinations in its vicinity are more likely to be competitively serviced by the hub airline.

5. In the context of the demand by big US airlines that the US Department of Justice revoke the rights of the three big Gulf carriers (Emirates, Etihad, and Qatar) to fly to US destinations on the grounds that they have benefited from $42 bn worth of government subsidies in the past decade, Edward Luce had this to write about the benefits enjoyed by the US carriers,

US airlines have benefited from the huge advantage of the Chapter 11 bankruptcy law. Starting with United in 2002, most of the big US carriers have gone bankrupt at some stage. US law has enabled them to restructure debts, slough off legacy pension costs and survive to fly another day. The industry-wide crisis has also prompted consolidation. The market has shrunk to just three big legacy airlines plus Southwest. A fifth, Virgin America, is nibbling at the edges. Nor are they strangers to direct government subsidy. At today’s prices, US airlines have benefited from $155bn of government help in the past half century, according to a US government report.

6. Why has leisure time declined even at the top-end of the income ladder even as today's top one percent earn a few times more than their peers from a century or earlier? Tim Harford offers this explanation,

The best educated and the highest earners, both men and women, had less free time than ever. Starting in the mid 1980s, this elite began to drop everything and work ­furiously... By pulling the longest hours and taking the least leave, we climb the corporate ladder. It may be no coincidence that the collapse in leisure time began in the 1980s, at a time when inequality at the top of that ladder was surging. The rewards for working hardest are large.

7. Finally, FT has this richly informative graphic from Rystad Energy that maps the price points at which the different oil sources become commercially viable.

In fact, as oil prices have plunged, it has been estimated that the oil majors have cut about $200 bn in projected investments. FT points to consultant Wood Mackenzie's report that 46 big oil and gas projects with 20 bn barrels of oil equivalent in reserves have been deferred, of which 5.6 bn barrels are in the tar sands of Canada.