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Can homebuyers enjoy capital appreciation seen in the past?

In 2Q2016, the URA price index for private non-landed homes slipped 0.1% q-o-q, the smallest decline seen in 11 consecutive quarters. The quarter also marked the third anniversary of the total debt servicing ratio. While the market could be bottoming out, one question that remains is whether homebuyers today could enjoy similar capital appreciation to that in the past, once the global economy recovers.

Over the past four decades, between 1975 and 2015, prices of private non-landed homes grew 6% annually. GDP per capita also grew 6% annually over the same period. Clearly, the long-term prospects of Singapore’s property market hinge on the country’s economic performance.

“On the demand side, the ability of the economy to continue to create wealth for Singaporeans is crucial for a constant supply of people with the wherewithal to purchase private properties,” says Alan Cheong, head of research at property consultancy firm Savills Singapore.

Singapore’s solid fundamentals, including political stability, legal transparency and quality workforce, will continue to be the engine of growth. Without new growth drivers, however, the economy would not have sufficient power to accelerate. Some cracks are already showing. The city state moved down one spot in the global competitiveness ranking by IMD this year, and its high labour costs and strong dollar have come under the spotlight.

The republic ranked 78th globally this year in the Innovation Efficiency Ratio, jointly published by Cornell University, INSEAD and the World Intellectual Property Organisation. The Innovation Efficiency Ratio measures the amount of innovation output a country produces relative to its inputs. The report indicates weakness in creative outputs such as national feature films.

It is risky to assume that what goes down must come up. History tells us that past growth could well be water under the bridge. In the 17th century, the British exchanged its Run Island in Indonesia for a swampy island in North America that belonged to the Dutch. The British were sure they got the short end of the stick as Run Island was rich in nutmeg, a valuable commodity used to preserve and flavour food and believed to have medicinal properties. At that time, a piece of real estate on Run Island was likely more valuable than one on the swampy island in North America.

Ironically, few people know the existence of Run Island today. The humble swampy island, on the other hand, is none other than Manhattan, a borough of New York City, home to some of the world’s swankiest and priciest real estate.

The decline of Run Island arguably started in the 1800s when the British began transplanting nutmeg trees to their colonies, including Singapore. The act crushed the Dutch monopoly and brought down nutmeg prices.

Singapore is unlikely to follow in the footsteps of Run Island after decades of building its fundamentals. It could, however, take a lesson in innovation from the rise of New York City as it enters into an era of great uncertainty.

New York City had thrived on garment manufacturing, sugar refining and publishing. A rapid fall in transport cost, however, changed the game, said Harvard economist Edward Glaeser in a talk. Production need not take place near the consumer market and could be shifted to another part of the world where labour was cheaper. The city did not buckle under the new forces, but successfully moved up the value chain to fashion designing and financial services, which shaped the fate of Fifth Avenue and Wall Street.

Conversely, Detroit offers a classic example of what could happen if an economy delays innovating. Its Big Three car manufacturers had lost their market shares during the oil crisis in the 1970s to the Japanese carmakers, which produced more fuel-efficient cars.

Run Island was exchanged for Manhattan

Photo: Wikipedia

The small-step interim approach

In his book Can Singapore Survive?, Professor Kishore Mahbubani, dean of the Lee Kuan Yew School of Public Policy at the National University of Singapore, advocates a liberal arts education to develop a culture of challenging and questioning assumptions in an era of great uncertainty.

However, efforts to inculcate the culture of critical thinking, risk-taking and innovation will take time to bear fruit. Meanwhile, urban economic principles may offer interim solutions.

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Studies suggest that population density has a positive impact on wages. Economists reckon that the physical proximity in a densely populated urban area promotes the sharing of ideas, which leads to innovation and higher-value products and services.

The benefits of clustering are known as agglomeration economies. Glaeser shared that the per capita income in the 10 densest US counties was 50% higher than the least dense half of US counties in year 2000. Also, the three largest metropolitan areas in the US accounted for 18% of US GDP while housing only 13% of the country’s population.

Wall Street in Lower Manhattan and Silicon Valley in Northern California exemplify agglomeration economies, with the clustering of firms and individuals credited with the slew of innovative financial products and technologies.

The quality of human capital is equally important in driving innovation. Wall Street and Silicon Valley draw the best talents from top universities. In his book Urban Economics, US economist Arthur O’Sullivan quoted a study by Carlino and Hunt that found that a 10% increase in the proportion of the population with a college degree raises patent intensity by 10.5%.

Singapore has undoubtedly taken these steps to bolster innovation. However, high real-estate and labour costs are blunting the country’s competitive edge in attracting businesses, preventing it from riding fully on its open-economy policy and undermining its agglomeration economies.

Savills’ Cheong also cautions that if immigration policies are such that they let in only those who add value to the economy without cannibalising local jobs, the growth rate is unlikely to head back to previous numbers as the global economy restructures to a new norm of slower growth.

“With market distortions arising from multiple cooling measures, we may see a stunted private residential price cycle from peak to trough and vice versa. It would be extremely unlikely that the market would re-experience the 56% trough-to-peak upside seen in the 2Q2009-to-3Q2013 period. Hazarding a guess, we believe it may be more like a 10%-to-15% trough-to-peak price growth, with the future long-term average price increase moderating from the 1990-to-2016 average of 5% to 3% per annum,” Cheong says.

High real-estate and labour costs are blunting the country’s competitive edge in attracting businesses, preventing it from riding fully on its open-economy policy and undermining its agglomeration economies

Photo: Bloomberg

The bold-step approach

Lee Nai Jia, Edmund Tie & Co’s head of research for Singapore and Southeast Asia, opines that for Singapore to thrive as a global city and stay competitive, it will need to have a population of eight million to 10 million.

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“We need the scale of demand and talent to succeed. The key thing is, how do we make that happen? We definitely have the land to house 10 million people [by intensifying land use], but we do not have the infrastructure to move people from suburban areas to the city at the moment. I think our government is working hard to make it happen,” notes Lee.

“Self-reinforcing effects”, one of the five axioms of urban economics, work like compound interest. As cities grow in size, they attract supporting businesses, including consultancy, accounting, legal, logistics and construction. Large cities are also able to support discretionary goods and services such as theatres and museums. In turn, they become a magnet for the best talents, which might fuel their growth further.

The converse is also true. Detroit’s dwindling population resulted in the shuttering of supporting businesses, which accelerated its decline. Detroit tells us that a declining population has an adverse multiplier effect. Similarly, the spate of retail closures in Singapore may compromise its status as a shopping destination, which could translate into slower tourist arrivals and other self-reinforcing effects. Buildings are durable goods that can last for decades. Real-estate supply therefore cannot adjust fast enough if population and demand shrink.

Lee, who holds a PhD in urban and regional planning from the Massachusetts Institute of Technology, is optimistic that future capital appreciation for Singapore property could outstrip historical pace after the economy has restructured.

“We will probably be like a hybrid of New York and Monaco in the future, and will always be a magnet for talent and investors. However, the restructuring will take at least five years or longer if there are economic shocks,” he reckons.

Smart city and urban management

Still, the population cannot grow indefinitely. The challenge for policymakers is to identify the optimum population size, which is not a static number. A continued increase in population may result in diseconomies of scale outgunning agglomeration economies, owing to capital dilution, congestion and other urbanisation problems. This would start a downtrend in utility, an economic term that could refer to income or satisfaction levels.

Proactive urban management is key in delaying the downtrend in utility and maintaining a city’s liveability. “URA’s plan to decentralise and allow people to work near their homes is critical to achieving economic growth and enabling people to live comfortably,” says Lee.

Daniel Tay, architect and urban planning consultant at Activistar, an urban innovation company, says Singapore exemplifies excellence in urban management, with its city planning and almost textbook-perfect co-ordinated rollout of projects. He gives the example of the real-time traffic information system that allows drivers to find alternative routes in the event of a traffic congestion or road hazard, thereby allowing almost seamless traffic flow.

“Smart city”, meanwhile, is the latest buzzword in contemporary urban management. A smart city uses information and communications technology to enhance its liveability, workability and sustainability.

Part of a smart city solution is the automation of menial jobs, according to Ryan Tan Hin Tuan, a former instructor on smart cities for the Singapore Cooperation Programme. The use of robots and automation would free up manpower and partially ease labour shortage.

Tan highlights Enevo, a company headquartered in Finland, which offers an optimal waste management solution. The company uses wireless ultrasonic sensors to detect the level of waste in a bin and a cloud service to alert waste collectors when the bins are full. It also guides drivers to the bin on the most optimal route. Tan says the possibilities are endless. In the future, the system could incorporate a driverless vehicle.

Tan also cites the use of automated scrubbers in facilities management. Low-skilled workers could be trained to operate a fleet of scrubbers while automation ensures consistency in the cleaning.

The next question is whether the current progress is fast enough to help existing businesses cope with labour shortage.

This article first appeared in The Edge Property Pullout, Issue 742 (August 22, 2016) of The Edge Singapore.

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