Housing under duress
The ambitious pet project of PM Imran Khan, Naya Pakistan Housing Program (NPHP), seems diametrically opposed to the budget announced by this government yesterday. In its original promise, the program will construct 5 million houses, though a savvy observer will question the possibility of this happening given that to meet this target, the government will have to construct 100,000 every month from now till 2023. In Karachi, 100,000 apartments are built in a year! Barring that though, the budget has now upped the stakes by potentially raising construction costs.
Last year, FED on cement had been raised to Rs1.5/kg from Rs1.25/kg while sales tax on steel had been raised to Rs13/unit of electricity consumed from Rs10.5/unit. This year, FED on cement will be collected at Rs2/kg and steel products will come under the normal tax regime paying 17 percent FED in place of sales tax. The implications of this are hardly insignificant.
A FED of Rs1.5/kg on cement translated to Rs75 per a 50-kg bag during FY18, which used to be Rs50 during FY16 and Rs62.5 during FY17. Each time the budget raised FED, cement companies raised prices, a few notches higher than the FED amount. In FY17 for instance, FED was raised by Rs12.5; average cement prices went up by Rs17-20.
One possible outcome is that cement manufacturers will raise prices. At Rs2/kg, the new FED on a 50kg cement bag will be Rs100. This would undoubtedly raise incremental government revenue-per some estimates – by Rs10 billion per annum. Cement is the biggest contributor to federal excise duty (FED), second only to tobacco, so great for the exchequer, not so great for end-consumer (read: “Cement’s price and demand unrest” May 31, 2019).
Currently, a cement bag in the north costs between Rs450-550 per bag, and Rs630-640 in the south zone. The FED-driven hike could take this upto Rs580-600 per bag for the north players and above Rs650 by south players. The other outcome is that cement manufacturers don’t raise prices.
What hangs in the balance, or rather the deciding factor is: demand, which has been coming up short. Both the north and south zones are witnessing a reduction in demand, not only in the domestic markets, but also abroad. Northern exports going to Afghanistan and India are on a swift decline as both countries are less receptive to Pakistani exports, India more than Afghanistan given the country has slapped heft duties on Pakistani goods. South players on the other hand are exporting clinker, in place of cement, which fetches much lower prices given it is a raw material.
If prices are not raised, cement manufacturers will watch their bottomline evaporate-by some estimates, they can come further down by 15-20 percent, which will cause many companies to post losses. However, given the flurry of activity required to make Naya Pakistan Housing Program possible, the incremental housing requirement may replace some of the lost demand. Cement players may not have to chase the lowest price. But ultimately, it will result in a higher cost of construction. A similar logic follows for the steel industry, and other industries associated with construction.
The SBP had restricted the cost of a low cost house at Rs2.5 million, but in Mar-19, raised the threshold to Rs3 million, but studies have suggested that houses to be built under the NPHP will have to cost much less for low income households to afford them. Even then, given that affordability is the single biggest concern for the project, the rising construction costs situation, together with tumbling purchasing power paints a dismal picture for its potential success.
Copyright Business Recorder, 2019