In every major global city, high-rise residential building are being built, as if each is preparing for an economic olympics, where wealthy couples from elsewhere arrive at the airport, ready to live a glamorous city-life. What if they stop coming?
What if they experience massive delays in public transportation, due to city infrastructure falling apart faster than falling taxes can fix it? What if they can’t hire an immigrant to make them a breakfast bagel?
In 1979 I traveled dilapidated buses, ferries and subways from Staten Island to my girlfriend’s home, in Scarsdale. Next to Grand Central Terminal, on 42nd Street sat the imposing 2,000 room Commodore Hotel, which sat empty and unwanted. I was 18 years-old. Trash was everywhere. In many parts of the city it wasn’t safe to walk alone. Even at that time, I couldn’t understand why the Commodore sat unused, dead and lifeless, while thousands of people passed it every day.
In Trump’s only bona fide real-estate success, he (or his Dad?) bought the building, re-modelled it (put on that false mirror front) and put it back in business. From that point on, Manhattan, and then most cities around the world, experienced a kind of growth and success that amazes me to this day. Now, at the end of his life, Trump may usher in the kind of economic waste-land that gave him his youthful success.
No matter how much data you have about the economy, real-estate busts are difficult to predict. Real-estate leases are long-term contracts that require months, if not years, to price and negotiate. If one is going to build a luxury high-rise in any city, it will take years to be built and years to full occupy it.
The long complicated, develop, build and occupy cycle of real estate development makes it difficult for anyone to predict exactly how much demand will meet coming supply. Each developer believes they will sell the last unit before the market collapsed.
Further, when real estate softens, most owners won’t change the lease but will wait months or years for the market to improve. Many businesses can’t adjust to market demand on a short-term basis.
As the economy weakens, businesses goes bankrupt and no longer have the capital to restart operations. Such a fate befell the Commodore Hotel next to Grand Central Terminal. By the time New York real-estate owners realized the severity of the economic down-turn, it was too late. Money had dried up. We can already see this in the vast amount of vacant retail space piling up in every city.
Everything in real estate happens slowly, then all at once.
In 2008, after the abuse-of-CDOs crash, many developers interpreted the economic data at the time as spelling the end to luxury high-rise development. Millions of people across America went bankrupt. The Fed was taking trillions of dollars of real-estate loans on its books. Nothing looked good. Yet years later, those who stayed in the city-development game continued building and making money.
It seems the government, by buying back bad real estate debt, created a new reality, where city-based real estate developers were spared the effects of the recession. It set up a situation, which certainly surprised me, where Chinese money began flooding into the U.S., making 2008 an inconsequential blip in the financial life of city people.
A lot of money goes into high-rise construction, not because there is a market (demand), but because of artificially inflated values.
So far, I haven’t witnessed young people moving into these buildings. For the past year, I only see mostly Chinese citizens looking at real estate in my neighborhood. The media won’t publish these trends because it looks racist. Yet there it is. If every developer doesn’t believe future demand is important, but only looks at the past record of rising values of city properties, it’s not surprising they concluded that they should build as much as possible.
What makes the current situation scarier is developers are not only building for those 1,000 new buyers, they’re building just because everyone else is building to satisfy Chinese capital, which, so far, is primarily interested in finding safe foreign investment (rather than income, rent). What happens, in the future, if these investors also want to make money while an excess of supply drives down prices?
They will lower prices, right? Less demand, lower prices? Isn’t that what you would do? Before you answer ‘yes’, please consider one other thing. You also own properties where people are paying more than the price you are about to lower/charge for your new space. What will they do when they see you offering a new and better place for less than their current place?
Let’s step back even further.
Behind all this city-building are lenders and debtors. Many of us are both! If you have a single retirement dollar invested in equities or bonds you have a stake in all this city-building.
We’re lenders in our 401Ks which buy bonds (which are used to build those skyscrapers), but debtors with our mortgage/rent payments.
We want the real estate bonds that our 401K advisor bought for us to keep paying the same value of money until we retire, while we want our mortgage payments to go down. Oh human greed, how blind you are to irony!
For the most part, anyone who thinks about this stuff desires a general balance between them. That’s what the Federal Reserve tries to do by influencing government bond interest rates — keep everyone from eating themselves.
However, the Fed can’t control corporate, municipal or private bonds and it can’t control how many buildings developers develop. Yes, there are real people out there, building their building with little thought about how the quantity of other buildings being built might affect demand for their building.
In short, it’s possible that most of the buildings you see going up, will create a glut and will begin to lose money upon opening. Worse, much of the construction is cheap and will become eye-sores within a few short years.
If people stop lending, new growth ceases right? Fewer iPhones, fewer buildings for contractors to work on, fewer jobs to administrate all those people creating, selling and buying bonds, stocks, or your old Beanie Babies. Then what do the people do who are working? They want even more money because, you guessed it, they can’t borrow anymore.
The government then tries to flood the market with money, nipping inflation in the bud, until growth starts again. That may not work this time because the government is still paying interest on the debt it holds from the abuse-of-CDOs debacle of 2008.
Every new building I see going up, every tick of bonds losing value, every bit of anger and frustration I see in social media, makes me wonder how the next crash will play out.
You may look at those empty buildings and wonder too. You may wonder the end-game of a public transportation system that breaks faster than its fixed. You may wonder where the people, who lost their jobs to driving cars, will get the money to live in tomorrow’s bright, gleaming cities. Or the immigrants, who can’t get here.
Or you can imagine the impossible, the reality I lived as a young person back in the 1970s.