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While the real estate sector continues to fulfil its brick-and-mortar function of meeting people’s rudimentary needs of shelter, its broader fundamental role in global financial stability, economic recovery, social well-being and environmental sustainability is becoming increasing pronounced. The global financial crisis, which started in 2007 and which has been the most severe crisis since the Great Depression, has served as the most recent forceful reminder of the need for a much more comprehensive understanding of the real estate sector. The Federal Reserve estimates that the US alone has lost US$ 3.4 trillion in wealth in the form of lower home values even by the most conservative account. Moreover, more than 5 million jobs have vanished and millions of people are under the distress of losing homes to foreclosures. On the other hand, many countries, both developed and developing, are still struggling to finance and provide adequate housing to their citizens. Informal housing settlements have continued to be the hotbed for pandemics and social instability.
Real estate development still functions largely at the local level, but its financing has long started to march beyond a home country’s borders. The globalization of financial products and financial markets has further accelerated this process. This trend supports both the developers and purchasers of real estate products, providing liquidity to further fulfil people’s needs for real estate while creating a platform to channel financial resources to areas where investors can get proper returns. Although the real estate markets are not fully integrated globally, they tend to become more correlated during a crisis, especially through the linkage of globalized real estate financial markets. Such linkages have also triggered shocks throughout the global financial network beyond the real estate financial markets, as witnessed in recent global financial crises, such as the ones originated in Sweden in the early 1990s, in Asia in the late 1990s, and in the US in 2007. Indeed, JPMorgan’s loss of US$ 2.3 billion on derivative products (which was related to mortgages) announced in May 2012 is another urgent reminder of the need for better and more comprehensive understanding of the linkages.
As our world continues its financial market rebuilding and fragile economic recovery, the real estate sector remains a critical force in shaping the speed, magnitude and direction of the rebuilding and recovery. The real estate sector shall become the driving force of a more sustainable financial, economic, social and environmental system in the post-crisis era with proper regulation and global collaboration. The Global Agenda Council on Real Estate thus focuses on the development of a global responsible and healthy real estate sector, particularly through its contribution to global financial and economic rebuilding.
The Global Agenda Council on Real Estate devoted its attention during 2011-2012 to two particular issues grown out of last year’s broader discussion on the drivers of the global real estate financial markets.
Regulatory Impact on Real Estate Investments
While the financial markets, which have been playing a critical role in financing developers and property owners alike, have become increasingly global through financial innovations such as complex security products, regulating these investments often happens nationally. After the crisis, many countries rushed to tighten financial monitoring rules and regulations, but such legislation is often nationalistic and reactive in nature, allowing a country to remain competitive in the global financial market while addressing past risks. Despite advancements in global regulatory frameworks like Basel III (higher capital standards, the core of the global financial reform agenda set by the Basel Committee on Banking Supervision) and regulations coming out of the world’s leading financial centres (e.g. Dodd-Frank Act), there has been major resistance to these new regulations. The current political climate, with the new sovereign debt crisis, has further left uncertainty as to how these regulations will likely impact real estate investments.
Real estate is undoubtedly cyclical. In fact, many of the financial crises since the mid-1800s, whether regional or global, have been related to the real estate cycle. Over-investment and speculation tend to be the common symptom shared by these crises on the surface; however, upon closer inspection, many details of how each of these crises were triggered are not as similar as they appear. Furthermore, the policy reactions have also led to varied results, with some having been successful in bringing the real estate market and the economy back on track while others have been blamed for exacerbating or prolonging the real estate crisis and being detrimental to the economy and social well-being in general. There has been a lack of systematic understanding from the regulatory perspective of how some of the most recent real estate crises have been monitored and dealt with. Academic and industry research on solutions to alleviate real estate crises may be abundant, but regulatory policy deliberation and evaluation of such policies are lacking and thus urgently needed to better inform new regulations for the current crisis.
The Council has advised the Forum on convening a multistakeholder roundtable on the impact of Basel III and the US Dodd-Frank Wall Street Reform and Consumer Protection Act for the real estate industry. The roundtable is scheduled for June 25 in Washington DC and is jointly organized with the Urban Land Institute. Council members including Hans Volckens, Susan Wachter and Steve Wechsler will be playing an active role in this roundtable, including moderating some of the sessions. In particular, the roundtable centres on the proper role of a policy framework, focusing on financial systemic risk for the financial system as a whole, including debt financing and security markets, as well as on private investor behaviours. A subsequent roundtable is also currently under development for Hong Kong in the second half of 2012 to explore the emerging real estate issues in the region.
A Framework for an Early Global Warning System on Real Estate Over-investment
Unlike markets for other asset classes, the real estate financial market is one of the most opaque markets, with substantial information asymmetry and a lack of common risk measurements. Nonetheless, the global financial market has propelled this traditionally local market to global scale with far-reaching systemic impacts. Building on the first work stream where participants made a comparative analysis of regulations on real estate investments, the second work stream goes one step further to explore a global warning system to properly monitor over-investments in real estate.
The Council is pragmatic and understands that over-investments and bubbles have existed since the dawn of human economic activities. The intent of this work stream is not to eliminate over-investments in real estate, or to develop a detailed risk model to predict such over-investment. Rather it focuses on a policy framework highlighting relevant indicators to ensure that proper monitoring is in place for early warning signals so that governments can take proper measures to minimize over-investments and their subsequent negative impacts. For countries that have been significantly impacted by the global recession, stabilizing their deeply depressed real estate market is often the first step towards economic recovery, but such stabilization is often impeded by the lack of understanding and confidence in investing in the real estate market again.
As such the strategic goals of creating a global early warning system for real estate over-investment are three-fold: 1) to improve understanding and restore confidence in local financial markets, thus helping deeply depressed countries move towards the first step of economic recovery; 2) to help stimulate global investment flows again that contribute to global recovery; 3) to properly monitor systemic risks globally within a common framework and provide a platform for multidisciplinary solutions and multilateral collaborations.
The Council has been active in generating significant impact on the regulatory impact on real estate investments and the framework for an early global warning system on real estate over-investment via various sessions at World Economic Forum events and through publications. Being an active contributor in the intellectual exchange at sessions has an impact. While it can be difficult to measure, changes in people’s attitude or understanding, or the development of an entire new approach to certain issues that ultimately leads to revolutionary breakthroughs can and do happen through these platforms.
Speaking at relevant Forum sessions:
1) New York Industry Partners Strategy Meeting, New York, September 2011, Steve Wechsler moderated and Susan Wachter acted as a fire-starter during the session, Containing and Mitigating Asset Bubbles – A Closer Look at Real Estate:
A significant number of investors invest in real estate – a sector that has already witnessed an asset bubble in the US and could suffer from one in some emerging markets.
- How can asset bubbles in real estate be contained and mitigated?
- Are there lessons to be learned from asset bubbles in other sectors that can be transferred to the real estate sector?
2) Annual Meeting, Davos-Kloster, January 2012, Deng Yongheng provided expert insights during the Infrastructure and Urban Development Governors Session: Reinvigorating Capital Markets for Infrastructure and Real Estate:
After the global financial crisis and recession, there are signs of a slow recovery emerging in capital markets for infrastructure and real estate investments and financing. However, uncertainties linger, such as the sovereign debt crisis, polarized and ineffective political systems, tightened financial regulations, rising government deficits and fragile economic recovery.
- What new models will reinvigorate capital markets for infrastructure and real estate investment and financing given continuing uncertainties?
- What do new capital sources and investment structures mean for long-term sustainable development in infrastructure and real estate?
- How can future bubbles in infrastructure and real estate investments be effectively monitored, detected, contained and mitigated?
In addition, the Council has put together a volume summarizing its thoughts on the broader issues related to the real estate financial markets and produced a report, Drivers of the Global Real Estate Financial Markets: Thought Pieces of the Real Estate and Urban Development Industry Agenda Council 2010-2011, published in November 2011.1
A second volume of the thought piece is being composed by the Council on the real estate sector’s important role in financial stability, economic recovery, social well-being and environmental sustainability. This volume is expected to come out at the end of June 2012.
Merging the Global Agenda Council on Real Estate into other Councils
The Global Agenda Council on Real Estate will be merged into various other councils after the conclusion of this council year. The intent is to help facilitate cross-council interaction and strengthen the linkages between the real estate sector and other segments of the financial market, economy and society in general. While the merger is still undergoing review and adjustment, it is likely that its members will be joining members of the Global Agenda Councils on Banking and Capital Markets, Urbanization, Fiscal Sustainability, and Governance for Sustainability. Members will also have informal conference calls after the merger to report back to the group on various discussion streams to ensure that the group captures the synergy and collaboration opportunities presented.
The opinions expressed here are those of the individual members of the Council and not of the World Economic Forum or any institutions to which they are affiliated.