How would the declining global population impact property prices? Does it still make sense to invest in new real estate developments in developed countries? Are midrange family homes & similar investments likely to rise in value in coming decades?
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For decades, policymakers, pundits, and analysts had raised concerns about the exponentially growing global population. This concern was raised considerably from 1960 onwards, and old fears such as the Malthusian limit etc., at times, were reinvigorated.
In such an environment, real estate, or anything with ownership of land, as an investment, was particularly favored. Mark Twain famously said: "Buy land, they're not making it anymore." Nonetheless, strategic investor(s) must always reassess emerging realities to determine whether certain strategies are still viable, as no strategy, none whatsoever, works in all scenarios, all the time.
Recent data, particularly from the last two decades, presents a very different scenario: The global fertility rate or birth rate per woman has dropped by 54% in the last six decades, at a rate of --1.28% (geometric mean) decline per year.
At this rate, the global birth rate per woman would soon decline below 2; 2 births per woman is the minimum figure required to maintain a population at current levels. When the birth rate falls below 2, the world will enter Sub-replacement fertility; this rate, if sustained, leads to each new generation being less populous than the older generation (U.N., 2021).
Bricker & Ibbitson (2019), in their book titled: "Empty Planet: The Shock of Global Population Decline," on similar lines, argue that the global population would start to decline by 2050, or perhaps sooner. If one may not be so inclined to accept their 'analysis,' it should be noted that the insights that data from the last six decades provide are irrefutable. Unless there is a baby boom, similar to the post-World War II period, which at this stage seems highly unlikely, the global population is set to decline.
How would population decline impact property prices and the assumption that "land" and real estate are good, foolproof, low-risk, long-term investments?
Empirical evidence may help us better understand how population decline may impact property prices. Puerto Rico is an apt example here. From 2007 to 2020, Puerto Rico's population declined by about 18%, and housing prices in this period, while fluctuating, fell more than 30%; at the same time, demand for luxury houses grew to record levels; data from other regions with shrinking populations also paints a similar picture (U.N., 2021; T.E., 2021; Segarra, 2021).
What conclusions can be derived from these insights?
As the population starts to decline worldwide, we are very likely to see a decline in prices of low-cost & midrange homes, and increased demand for luxury houses. For example, if this scenario was to unfold today, in an average American city, say, Denver, Colorado, we would see a significant decline in demand and prices for/of houses under $500K, and a considerable increase in demand and prices for/of homes priced above $2 million.
We would see a move away from up-and-coming areas or areas broadly viewed as undesirable, compared to more established, "high-end' areas of the city.
For example, if this scenario were to unfold today in Los Angeles County, we would see a significant reduction in demand for, and price of, low income and middle-class areas, and a substantial increase in the demand and price of houses in areas such as Malibu, Beverly Hills, Bel Air, etc., the already established luxury areas.
Why would the demand for "average homes" decline?
The "Real Disposable Personal Income" in the U.S. has increased by 609% in the last six decades, a yearly growth rate (geometric mean) of about 3.26% p.a.; disposable income across the OECD countries and the world has continually increased overall in recent decades. Personal Disposable income is likely to rise in the coming years as well (BEA, 2021, OECD, 2021).
Another key issue that we must understand here is that economic productivity, in conjunction with labor and capital, depends on the determinant technology of the economy, as per the neoclassical model of growth. While one important factor, labor, may reduce in quantity, determinant technology of economies, due to advances in A.I., neural networks, and other machine learning tech, across multiple countries, is projected to see a very substantial improvement, due to tech-related advances that are likely further to enhance productivity growth rate globally.
Such growth, coupled with a declining global population, would also contribute to further increases in disposable incomes. Amalgamating these factors, it becomes clear that a lower population with more money would demand more luxury real estate and less affordable real estate in undesired areas. Thus, if current population and income trends persist, we are more likely to see a higher demand for luxury homes and properties in the future rather than affordable homes.
Should new real estate developments and emerging projects still be seen as a good investment?
As per the emergent trends discussed earlier, investors should be very cautious about allocating capital in new development projects with a long-term maturity horizon. Any projects that are likely to yield a return beyond eight years in this space must be scrutinized very thoroughly and reevaluated. The old assumptions of demand and growth, as per emerging trends, are unlikely to apply in the future, and thus, present valuation models, and net present value calculations, as per current assumptions, are likely to yield erroneous results.
For example, a pension fund, insurance firm, or individual investor may be evaluating an investment proposition of a developing gated community, in a city that is unlikely to see an idiosyncratic population influx. They may assume that population growth in the city would be sustained at the long-term growth rate of the last decade. However, this may not be an accurate assumption at all. While some cities, especially in the developing world, are likely to see a population increase for the midterm horizon, developed countries, in the mid-to-long-term horizon, are likely to (firstly) see an end of population growth, and, secondly, a population decline.
This means that real estate development projects that are likely to mature in 8+ years would face a reduced demand and, hence, a downward price pressure; this essentially means that investors are unlikely to make positive real net returns on these investments and more likely to see real negative returns on these investments. Therefore, strict caution must be exercised regarding allocating capital in such long-term investments.
Investors that are already invested in such projects should consider liquidating their positions more seriously.
Are all long-term developments in the real estate sector likely to see a decline in value?
There are additional nuances, nevertheless, that we must understand/consider: As elaborated in the Puerto Rico example/empirical evidence and discussion, as real incomes grow in the future and the population declines, demand for luxury properties, especially in the highly desired areas, is likely to increase.
This would mean that such new developments, i.e., luxury property developments or luxury gated community developments, are likely to see increased demand and appreciation of prices; this effect should accentuate as real incomes rise, with improvements in the determinant technology of economies, and also, with the decline in populations.
It is, nonetheless, crucial to understand that while it is highly likely that luxury properties and developments would perform significantly better in the future, due to the factors elaborated in this report, presently, we cannot, however, predict which type of luxury properties would be in demand, desired, or trending in the future.
Therefore, investors wanting to benefit from this projected long-term appreciation of luxury properties should not bet on just one luxury development as it may or may not be demanded or trending in the future. A diversified approach, either through an ETF, etc., would diversify the downside risk better. All such investment instruments, however, should be thoroughly scrutinized.
Another further nuance that we must consider:
In many developing countries, where the birth rate per woman is unlikely to decline below 2, in the short-term, demand for new developments is likely to remain stable; nonetheless, as property prices in developed international markets are likely to decline due to emerging trends, property and investment property prices in developing markets, even with a high fertility rate, as per the covariance of real estate returns of these countries with the overall global property prices (their beta in relation with international property prices), may be adversely impacted by the decline in international property prices.
For example, let's assume that the beta of returns of real estate investments in Nigeria, in relation to international property prices is 1.4. If global property prices drop by, say, 10%, Nigerian property prices would also be negatively impacted and most likely decline by 14%. Local investors and funds seeing the decline in global property prices may also (erroneously) see these international investments as more favorably than local Nigerian investments.
Similarly, declining prices in the local markets may distort individual decision making; individuals/families wanting to buy a new home or property, seeing a decline in property prices, may hesitate from making the purchasing decisions, sensing that prices may decline further, and anticipating that it may be cheaper to acquire the same property in the future.
All in all, a decline in global property prices, is also likely to destabilize and negatively impact prices in countries with a high fertility rate.
Investors and institutions, in conclusion, should reevaluate their long-term property portfolios and reconsider the investment assumptions. It is also important to understand that as other investors/individuals start to understand this viewpoint, the time horizon in which we are likely to see a decline in the value of new developments is likely to shorten.
As uncertainty about the future prospects of new projects with long-term maturity rises, their market value is likely to become more volatile, attaining a declining momentum. Just these apprehensions about future prospects, therefore, may negatively impact the value of such projects.
Ibbitson, D. B. (2019). Empty planet: the shock of global population decline. London: Robinson.
Segarra, C. G. (2021). Luxury Real Estate in Historic Demand. The Weekly Journal. Retrieved from https://www.theweeklyjournal.com/business/luxury-real-estate-in-historic-demand/article_ce12b810-bd92-11eb-91b6-f78ae49ccbcd.html
TE. (2021). Puerto Rico House Price Index. Trading Economics. Retrieved from https://tradingeconomics.com/puerto-rico/housing-index
National Bureau of Economic Research. "Trevor Swan and the Neoclassical Growth Model," Abstract & Pages 1 & 11. Accessed July 4, 2020.
OECD (2021), Household disposable income (indicator). DOI: 10.1787/dd50eddd-en (Accessed on 06 July 2021)
U.N. (2021). Fertility rate, total (births per woman). United Nations. Retrieved from https://data.worldbank.org/indicator/SP.DYN.TFRT.IN
U.N. (2021). Population, Population, total - Puerto Rico. United Nations. Retrieved from https://data.worldbank.org/indicator/SP.POP.TOTL?locations=PR
U.S. Bureau of Economic Analysis, Real Disposable Personal Income [DSPIC96], retrieved from FRED, Federal Reserve Bank of St. Louis; https://fred.stlouisfed.org/series/DSPIC96, July 5, 2021.