Dubai: Regulation is a thankless job. The purpose of regulators is to determine a “priori” - what the optimal price level is for consumers and producers in any multi firm industry.
In real estate, given the fact that there have been lower barriers to entry than in other areas, the herculean task is to protect investors from stalled projects, as well as ensure a viable marketplace where the same investors are incentivized through the price signaling mechanism to allocate their savings to such an asset class, such that over time home ownership levels increase.
This implies that over time, prices have to rise over and above the rate of inflation. If this condition is not met, then the incentives to purchase housing stock is non-existent, leading to falling demand. Falling asset prices then have a cascade effect on consumer patterns and a spiral ensues, implying lower levels of economic growth.
In Dubai, there have been various suggestions made to constrain the level of supply, bundled with lowering the cost of acquisition, by lowering transaction fees. While these measures may have some impact on the margin, I have always resisted such measures as it defeats the model of the city, which is for free markets to do their job and to facilitate, rather than constrain regulation.
What is clear, is that over time, we see that the progress of any city is determined by channeling savings into assets such that it elevates growth rates. This implies that the fortunes of the populace becomes increasingly dependent on asset price growth.
On the one hand, this enriches asset owners, but on the other it makes it less affordable for those who have not participated in the boom of asset prices. Growth then comes at the cost of affordability, and in cities where home ownership rates are low, price growth actually deters the process of capital formation. Governments then are left with a choice of what goal is to be prioritized as these come into conflict with each other. However, there is a solution that encourages capital formation more efficiently through the allocation of pension funds towards such assets.
In developed countries, pension funds play the important role of allocating resources for the small investor in a manner that generates a rate of return high enough after they retire. These pools of capital have come to dominate markets in developed countries (often catering to specialised professions such as teachers, firemen, etc).
A look into the asset allocations of such funds reveals a higher allocation towards equities and real estate. Often, these pension funds were created through regulation, and their asset allocation decisions were also guided towards such assets through direction rather than volition.
In these instances, regulation both created the demand for assets, as well as helped stabilize asset price movements during times of distress.
It is no secret that the next stage of evolution in Dubai’s capital markets is through the allocation of such resources. There are far better qualified people to comment on the issue of pension fund reform, but the broader themes remain : 1) encouragement of asset formation and increased home ownership and 2) a continued intertwining of asset prices with the outcomes of the resident population.
These themes are better addressed through demand management rather than constraining supply, which has the deleterious effect of constraining competition. (And which has empirically proven to not work outside the domain of natural monopolies).
Freehold ownership laws propelled Dubai into the ranks of Tier One cities; new ownership laws that will liberalise other sectors promise to continue this trajectory of growth. However, there are always bumps on the road, and the role of regulation is to reduce market failures even as it is to enrich society through the facilitation of capital formation.
Towards this end, it is the demand curve that needs to be managed more effectively, and regulation that aligns the incentives of capital formation through demand led measures have a higher probability of success.
(Nasser Malalla Ghanem is Senior Partner at NM Associates, which has a joint venture with GCP.)
