Time to answer the questions raised by my post on using real estate options to pay for acquisition of land. I’ll answer the questions raised in the comments first, and then address some other issues.
Will the options be provided to displaced people free of cost, or sold? Will they be given loans to buy them? And who sells them the options?
I envisage free of cost, but that isn’t necessarily the right answer. I think that the right price will be something arrived at through trial and error, after seeing the results from many such compensation schemes. But you can have any nonzero inital price of the option, with a corresponding change in the price you exercise it at.
The options will be paid for by whoever is acquiring the land and displacing the original landholders. They will be sold by competing real estate agencies and property developers.
Does this mean that displaced people will move to the about-to-benefit regions?
No, it doesn’t. It just means that they become the landlords of the about-to-benefit regions (if they exercise the option). They collect the rent or the mortgage on the land. They don’t necessarily move in. But I’ll come back to this later.
If the government won’t even move them to any region, why will it move them to an about-to-benefit region?
Excellent question. For the government-backed Sardar Sarovar Authority, or indeed any developer, resettlement is a cost which they’d like to minimize. But if selling land to displaced people was a profitable activity, and multiple real estate vendors were competing to sell them land, this wouldn’t be a problem.
How do we reach this happy state? Well, real estate options are financial assets. You can borrow against them just as you can borrow against actual property or against shares. They become security for a property loan- and now the displaced family chooses where to buy property instead of just settling for what the government gives it.
Now, the objections I thought of myself.
This won’t work for the Narmada Dam victims, will it?
Sadly not. It’ll not work for anything at this point of time. It needs a lot of infrastructure in place before it can work.
Like what?
Ah, now we come to the meat of the matter. To make it truly effective, you need an existing large and liquid market in real estate options. The problem with this is that trading in real estate options did not actually begin until this year at the Chicago Board of Trade. Still, there’s no reason it won’t eventually catch on in India.
What if the option holder exercises the option, becomes the owner of the property, and chucks out the tenants?
Well, he would be in his rights to do so (assuming the local laws were actually biased in favour of landowners instead of tenants), but there are some ways to avoid this:
- Don’t allow delivery against the option. Just allow the option to be sold back to the original holder, so that the holder only gets the difference in prices, and not the real estate itself. I’m not a great fan of this one.
- Instead of an option on the real estate itself, make it an option on a mortgage-backed or rent-backed security, i.e., the holder will not own the real estate itself, but the right to collect all future mortgage payments or rental payments on it. This could work, but it assumes the existence of mortgage backed securities. Then again, if the Indian financial system can evolve to offer real estate options, it can surely offer mortgage backed securities, which are in much higher use.
- The developers of the property which is being optioned actually create surplus capacity for the prospective options. It could be done, but it would saddle them with an investment that offered no return for the life of the option. I don’t see this becoming very feasible.
- My personal favourite: instead of making it an option on actual real estate, make it an option on a real estate index.
What’s a real estate index?
Just as the Sensex measures the value of 30 specific stocks, and converts it into one single number, a real estate index would check property values at certain locations and convert that into a single number. You could have an all-India commercial property index based on office rents in Bangalore, Mumbai, Gurgaon, and Chennai. A Bombay residential property index based on flat rents in Andheri, Powai, Dadar, Colaba, and so on. This addresses one of the difficulties in deciding the market price of an actual piece of real estate.
What if unscrupulous property dealers offer low prices to the displaced people for their options? Those displaced people would take any amount of cash and spend it on booze instead of holding on to a piece of paper.
This is an argument against financial illiteracy, and not against options. After all, you could as easily ask ‘What if unscrupulous property dealers offer low prices to displaced people for the land they get as compensation?’.
So you do need to educate people on what the option actually does and how it can be used, but it isn’t a horribly difficult concept to explain.
And I’m not being facetious here, but cellphones can be a very powerful weapon where this is concerned. If fishermen can use them to find the market price of fish, displaced landowners can use them to find the market price of an option.
What was that you said about turning resettlement into a profitable activity?
Look, people who build a dam are good at civil engineering and project management. Not at buying land and helping people they’ve displaced to move there. So for starters, the people building a dam shouldn’t be in charge of resettlement- just pay for it.
But then should there be a single agency in charge of resettlement? No, dammit. Throw resettlement open to competition. Treat displaced people as consumers and entrepreneuers who want to buy income-generating property, not as refugees. Give them liquid assets like cash and real estate options (or even ownership-equity in the developing body) which they can use to buy land. Who sells them land? Competing property developers. Who provides them the options? Competing real estate agencies, anxious to close a deal. Once competition enters the sale of options as well as the purchase of land, displacement victims will get a much better deal. Also, the kinks in this new and untested scheme will be ironed out much faster.
I’m still doubtful about the whole thing.
I’m not surprised, because it is a whole new idea. But that’s why I’m plumping for a market in resettlement, because it’ll work out the problems much faster than I ever can.
That wraps it up. I don’t think I’ll have any more individual posts on this, though I’ll of course address all further questions in the comments.
I think I understood everything you’ve said . 🙂
One question about this :
‘Who sells them land? Competing property developers.’
Why would the property developers sell land to those displaced when they know it’s price is going to shoot up soon when the water infrastructure is in place?
They will not necessarily be selling them the same land. Basically the property developers are interested in the real estate options which the displaced people hold, and they sell them land in return for the options. The land which is sold could be anywhere.