Challenges for the Real Estate Industry

The world is experiencing unprecedented disturbance and complexity. The risk spectrum is growing with unforeseen challenges affecting the real estate industry. Supply and demand, the economy, demographics, interest rates, governmental regulations, and unanticipated events influence the real estate market, including prices and rental rates. While property values do tend to increase over time, the market is fickle, and investments may lose value.  The lingering financial effects of Covid-19, a European war and sanctions affecting the global economy, increased state intervention, and industrial competition are all exacerbating these challenges. It is a crisis period where traditional institutions and norms are being questioned. Even in times like these, most real estate companies still hold onto the outdated, well-established system, which is disintegrating in the face of myriad economic, social, and environmental problems. Thus, real estate businesses should put aside the cyclical headwinds and adopt a long-term perspective on real estate assets. Since real estate is cyclical and will eventually recover, intelligent policies and constructive strategies can help the real estate business stay afloat.

What are the Challenges?

Rising Inflation

The economy is slowing down, and the biggest threat to real estate from a recession is falling demand for residential and commercial property due to rising unemployment and falling household income. For instance, over 70% of Pakistani households cannot afford a house (Wahid, 2023). In February 2023, national Consumer Price Index (CPI) inflation in Pakistan was 31.5% yearly, while core inflation was 17.1% in the urban basket and 21.5% in the rural basket (State Bank of Pakistan, 2023). According to the National Institute of Economic and Social Research, inflation will be significantly more than 3% during 2023 (National Institute of Economic and Social Research, 2022). These aspects raise the costs of certain real estate investments and increase the likelihood of market fluctuations.

Increasing Interest Rates

Interest rates heavily influence the ability of an individual to purchase a home. In Pakistan, interest rates on real estate ultimately fluctuate because of the stock market’s high volatility and the country’s shifting economic and sociopolitical conditions. One of the most effective strategies to combat inflation is raising interest rates, as investors seek to maintain debt costs and their resultant influence on property valuation and investment performance. Pakistan’s central bank raised its key interest rate by 300 basis points to 20% on March 2023, raising borrowing costs to their highest level since 1996 (Pakistan Interest Rates, 2023). Thus, to mitigate the negative effects of rising interest rates, real estate investors must carefully manage leverage, including managing increased borrowing costs effectively, improving cash flow, and maximising value creation.

Growing Demand for ESG

Environmental, social, and corporate governance (ESG) considerations are becoming progressively crucial to the real estate industry. This trend is being driven by factors such as net-zero commitments, new regulations, and the transfer of wealth to younger generations. As a result, real estate investors and owners are rethinking their approaches and considering how to identify pertinent ESG risks, incorporate ESG factors into their decision-making, and generate value for all stakeholders. According to a 2019 survey, only 17% of companies in Pakistan report using the Global Reporting Initiative (GRI) standards, highlighting sustainability performance, while 73% of companies globally report using the GRI standards (Shekha, 2022). This is one of the reasons investment funds barely flow into developing markets like Pakistan.

Changes in the Working Landscape

The recent global pandemic has changed the working environment and landscape of many industries. For instance, most employees are still not returning to work as frequently as before the pandemic, with less than half of employees working in an office on any given day in major real estate markets  (pwc, 2023). According to a survey, 75% of workers prefer flexibility in work over pay raises (Forbes, 2023). Real estate investors must now determine which changes are most probable to last and which will likely be temporary.

Surge in Price of Construction Material

Real estate developers rely heavily on construction materials in their work. Cement and steel, for example, have recently seen price increases. For instance, in Pakistan, the price of a cement bag increased from Rs900 to Rs1150, sandbags from Rs2,700 per to Rs3,600 per trolley, crush (Bajri) from Rs4,000 to Rs4,700 per trolley and bricks from Rs10,000 to Rs13,000 per trolley  (Shirazi, 2023).  The primary cause of this cost increase is a shortage of supplies and increased fuel prices. To maintain this situation, retailers are working with lower margins post-pandemic. There is a chance that the surge in raw material costs will increase rental prices, making property purchases less feasible overall. The price of a five-marla house has risen to Rs0.3 million. A five-marla double house now costs more than Rs1.5 million to build (Shirazi, 2023).

Keeping Pace with Technology

Technology is developing rapidly and becoming increasingly intricate and interdependent. One of the biggest issues real estate brokers have is keeping up with such technological changes. Customers expect exceptional experience, and if a real estate company is not up to date with technology, it can lead to failure. As a result, real estate companies are constantly changing their focal point to provide popular and in-demand needs to their prospective customers.

Shortage of Land

Pakistan’s Land Acquisition Act of 1894 is outdated and opens up a plethora of complexities resulting in delays in the completion of projects and drainage of resources of both the owners and the state (Ahmed, 2022). As a result, the land is not easily accessible or available. Furthermore, the country’s growing population may jeopardise the availability of land. The population of Pakistan in 2023 is 240,485,658, a 1.98% increase from 2022 (macrotrends, 2023). Most Pakistanis live in cities, and the country will soon require new cities to accommodate the increasing population. It could easily lead to a lack of land availability.

Lack of Funds

Construction takes time, and any new small-scale developer requires funding. Obtaining funds from financial institutions can be difficult, as such projects are usually riskier. In this case, the decisions are based solely on cash flow uncertainty. As a result, even financial institutions scrutinise loan proposals. Due to this funding inefficiency, many retailers do not complete their projects on time, which significantly impacts the real estate industry.

Conclusion

The real estate industry is undergoing constant shifts due to changing geo-political landscape, consumer behaviour, evolving trends, and technological advancements. Such shifts also come with various challenges, which may impact the performance and landscape of the real estate sector. Thus, keeping up with these challenges by adopting immediate, effective and intelligent policies is crucial to the success of any real estate business.

References

Ahmed, A. (2022). Land Acquisition in Pakistan: Loopholes in the Legal Framework and the Way Forward. International Journal of Urban and Regional Planning. Retrieved from https://journals.umt.edu.pk/index.php/IJURP/article/view/2758

Forbes. (2023, March 5). How Remote Work Has Affected Real Estate Values. Retrieved from https://www.forbes.com/sites/adigaskell/2023/03/05/how-remote-work-has-affected-real-estate-values/?sh=2a2bd43e1229

macrotrends. (2023). Pakistan Population 1950-2023. Retrieved from https://www.macrotrends.net/countries/PAK/pakistan/population#:~:text=The%20current%20population%20of%20Pakistan,a%201.85%25%20increase%20from%202020.

National Institute of Economic and Social Research. (2022, November 16). Inflation Set to Fall in Early 2023. Retrieved from https://www.niesr.ac.uk/blog/inflation-set-fall-early-2023

Pakistan Interest Rates. (2023, 3 2). Retrieved from Trading Economics: https://tradingeconomics.com/pakistan/interest-rate#:~:text=Pakistan%20Raises%20Key%20Rates%20to%2020%25&text=in%20inflation%20expectations.-,The%20inflation%20is%20expected%20to%20rise%20further%20in%20the%20next,23%25%20seen%20in%20November%202022.

pwc. (2023). Emerging Trends in Real Estate 2023. Retrieved from https://www.pwc.com/us/en/industries/financial-services/asset-wealth-management/real-estate/emerging-trends-in-real-estate.html

Shekha, N. (2022, February 7). ESG reporting in Pakistan’s corporate sector. Retrieved from DAWN: https://www.dawn.com/news/1673618

Shirazi, Q. (2023, January 3). Prices of construction material soar. Retrieved from The Express Tribune: https://tribune.com.pk/story/2393870/prices-of-construction-material-soar

State Bank of Pakistan. (2023, March 2). MONETARY POLICY COMMITTEE STATE BANK OF PAKISTAN. Retrieved from https://www.sbp.org.pk/m_policy/2023/MPS-Mar-2023-Eng.pdf

Wahid, D. (2023, February 20). Real estate as an economic bogeyman. Retrieved from DAWN: https://www.dawn.com/news/1738018