Oil at $140 and Rising: Jamaica’s Housing Costs Under the Pressure of the Global Commodity Spike

Jamaica Homes Housing Affordability & Cost of Living Review — July 2008

• Global oil prices have surged to historic highs above US$140 per barrel, driving food and energy costs across the global economy and significantly raising Jamaica’s import bill
• Construction material costs, driven by rising energy prices and global demand, have escalated sharply, squeezing the viability of affordable housing development
• The JLP government under Prime Minister Bruce Golding, ten months into office, is managing the simultaneous pressures of fiscal adjustment, rising import costs and a global financial environment showing early signs of severe stress
• NHT loan limits are under pressure as construction costs rise and the gap between what the Trust will lend and what an acceptable property costs widens
• Consumer spending power is being eroded by rising energy and food costs, reducing the savings capacity that aspiring homeowners depend on for deposit accumulation
• International financial markets are showing signs of severe stress; Bear Stearns required a rescue in March 2008, presaging deeper global difficulties ahead

The global economy in July 2008 is at an extraordinary historical inflection point, though not all observers recognise it as such. Oil prices have surged through $140 per barrel, driven by a combination of strong demand from emerging economies, supply constraints and speculative positioning. Food prices are at multi-decade highs globally, triggering food security concerns in importing countries from the Caribbean to sub-Saharan Africa. And in the United States, a housing market that had been inflating for a decade is collapsing under the weight of the sub-prime mortgage crisis, with consequences for the financial system that are already severe and are becoming more so. Jamaica is not the author of any of these forces. It is, as it almost always is, a recipient of their consequences.

The oil price spike is the most immediately relevant of these global forces for Jamaica’s housing market. Oil is an input — directly or indirectly — into almost every element of housing cost: the transportation of materials, the manufacture of cement and steel, the energy required to operate construction equipment. When oil prices double from their 2007 levels, construction costs follow, not immediately but within months. Developers who signed fixed-price construction contracts before the oil spike are watching their margins evaporate. Developers who are pricing new projects are finding that the per-unit cost of construction at affordable specifications has risen to levels that either push unit prices beyond NHT loan limits or produce unacceptably thin margins.

The Golding Government’s First Year: Housing Under New Management

The Jamaica Labour Party’s victory in the September 2007 election ended eighteen years of PNP government. Bruce Golding, who had spent much of his political career in opposition — including a period leading his own party before rejoining the JLP — assumed the prime ministership with genuine public support and significant economic constraints. The PNP left office with public debt elevated, interest rates high and the NHT as the primary affordable housing mechanism. These are the same conditions that constrained the housing market under the PNP’s final years, and they constrain it still under the new government.

The JLP’s housing policy platform emphasised private sector partnership in affordable housing delivery and an expansion of NHT access. These are sensible directions, but they require the fiscal space and market conditions to implement that ten months of high oil prices and a deteriorating global financial environment are making increasingly difficult to find. The government’s immediate housing market challenge is less about launching bold new programmes than about managing the cost pressures that are eroding the viability of the housing delivery mechanisms already in place.

The NHT Under Construction Cost Pressure

The NHT’s loan limits are set in nominal Jamaican dollar terms and are adjusted periodically to reflect inflation and changing construction costs. When oil prices spike and construction costs rise rapidly, there is an inevitable lag between the cost increase and any adjustment in the Trust’s loan limits. This lag creates a period in which the approved loan limit will not cover the construction cost of an acceptable new unit, reducing the universe of properties that NHT-eligible buyers can finance through the Trust. The squeeze is real and is being felt by both buyers and developers who are trying to build within NHT’s parameters.

What This Means

For buyers, the erosion of consumer purchasing power by food and energy price inflation is a real constraint on deposit accumulation. Buyers who are saving toward a purchase target should recalculate regularly: the deposit goal set eighteen months ago, based on property prices and income levels from that time, may need revision in light of both higher property costs and lower real incomes. The target is moving.

For existing NHT mortgage holders, the key risk in an inflationary environment is that real wages fail to keep pace with the cost of living, eroding the income margin that supports comfortable mortgage serviceability. Mortgage holders in sectors facing wage restraint or reduced employment opportunities should review their budgets with particular care in the current environment.

The Outlook: A Commodity Spike That Will Eventually Correct

Oil markets are notoriously cyclical. The spike of 2008, dramatic as it is, will eventually correct as supply responds and demand softens. The correction, when it comes, will ease construction cost pressure and reduce the inflation that is eroding household purchasing power. But the correction may be preceded by a further worsening of the global financial environment that is visibly deteriorating in the United States. Jamaica’s housing market must navigate both the commodity spike and whatever the US financial system’s crisis delivers to its shores in the coming quarters. It is a difficult horizon. The fundamentals of Jamaican housing demand — population growth, urbanisation, the diaspora’s interest in the island — are unchanged. Getting from here to there will require endurance.

This review is produced for informational and journalistic purposes only and does not constitute financial, legal or investment advice.

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