REGIONAL DEMAND FOR HOUSING IN PUERTO RICO: 1987-1990

A CORPLAN, INCL. Study for: The Puerto Rico Bankers Association by Elas R. Gutirrez, Ph.D

TABLE OF CONTENTS Page

PROLOGUE

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i ii 1 1 2 5 7 11 16

EXECUTIVE SUMMARY.. l.0 Introduction.. 1.1 1.2 1.3 1.4 1.5 2.0 Objectives.. Analytical Approach and Scope. Housing Needs in Puerto Rico.... The Construction Industry: Recent Trends and Outlook. Constraints Faced by the Construction Industry..

A Profile of Today's Housing Market Structure...

3.0 The State of the Housing Industry in Puerto Rico: 1985. 3.1 3.2 Contribution to Aggregate Productivity... Current Construction A c t i v i t y . 25 25 27 28 29 30 37 37 43 43 46

4.0 The Demographics of the Housing Market 4.1 4.2 Major Trends Regional Trends...

5.0 Theoretical Framework 5.1 5.2 5.3 5.4 The Speculative or Post-Shelter Market.. The Priced-Out Market. The Sought-After Market. Model Specification..

5.4.1 5.4.2 6.0 7.0 8.0

Functional Specification.. Econometric Specif ication

47 48 53 69 71 73 73 77 90 97 99

Measurements and Estimation Procedures.. Simulation Procedure. Demand Forecasts.. 8.1 Regional Forecasts 8.1.1 8.1.2 8.2 Most Likely Regional Scenario..... Alternative Regional Scenario......

Municipal Forecasts..

9.0

Conclusions..

Appendixes ..................................................................... ..

L I S T OF CHARTS
Page GRAPH 1 Construction Investment in New Housing GRAPH 2 Real Investment in Housing Construction GRAPH 3 Federal Home Loan Bank Board Rate GRAPH 4 Prime and Federal Home Loan Bank Rates GRAPH 5 Real Average Family Assets Valuation GRAPH 6 Real Average Family Assets Valuation Historical and Forecasted GRAPH 7 Real Average Family Assets Valuation Changes GRAPH 8 Implicit Price Deflator GRAPH 9 Cumulative Income Distribution: PR 1985 - All individuals GRAPH 1 0 Cumulative Income Distribution: Lorenz Curve PR 1985 55 22 22 21 21 20 20 17

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GRAPH 1 1 ( a ) Log Distribution of Value of Housing GRAPH 11 ( b ) Log Distribution of Value of Housing Accumulated GRAPH 12(a) Value of Housing Vs Family Income GRAPH 12(b) Change in Number of Housing Units GRAPH 12(c Marginal Change in Housing Units 59 58 58 56 56

GRAPH 12(d) Marginal Change in Housing Units Logarithmic Scales GRAPH 13(a) W eights Distribution of Housing Values For Regions 1 to 3 GRAPH 13(b) W eights Distribution of Housing Values For Regions 4 to 7 GRAPH 14(a ) Regional Distribution of Probabilities Non-Metropolitan: 1 , I I , I I I 62 61 61 59

GRAPH 1 4 ( b ) Regional Distribution of Probabilities San Juan Metropolitan: GRAPH 15 Probability that a Construction Permit be Issued for Private Housing GRAPH 16 W ealth and Population Distribution GRAPH 1 7 Income Per Capita vs. Employment GRAPH 18 Total Municipal income GRAPH 1 9 Private Investment in Housing GRAPH 20 Average Investment in Housing Per Unit GRAPH 21 Expected Average Private Housing Demand GRAPH 22 Private Housing Units Constructed GRAPH 23 Price Range Drifting: 1980-1990 74 68 68 67 67 64 64 63 63 IV, V, VI, VIII 62

DIAGRAM 1 Puerto Rico's Housing Market Structure 45

L I S T OF MAPS
Page MAP 1 Regions of Puerto Rico MAP 2 Municipios of Puerto Rico MAP 3 Population of Puerto Rico: Years 1970, 1980 and 1990 MAP 4 Percentage Change in Population: 1970-1980 MAP 5 Percentage Change in Population: 1980-1990 MAP 6 Percentage Change in Population in Age Cohorts 24 to 44: 1980-1990 MAP 7 Percentage Change in Population Age Cohorts 45 and Over 1980-1990 MAP 8 W astewater Treatment Plants MAP 9 Expected Court Release Date MAP 1 0 Regional Distribution of the Housing Stock: 1980 MAP 11 Regional W eighted Median Values Owner-Occupied Housing 82 81 14 13 36 35 34 6 4

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MAP 1 2 Number of Families with Median Income Below $15,000 MAP 1 3 Number of Families with Median Incomes Between $15,000 and $34,999 MAP 1 4 Number of Families with Median Incomes Between $35,000 and $59,999 MAP 1 5 Number of Families with Median Incomes Above $60,000 MAP 16 Share Distribution of Perceived Valuation of Family Assets MAP 1 7 Expected Regional Unit Value Distribution of Private Housing Demand MAP 1 8 Expected Regional Price Distribution of Private Housing Demand MAP 1 9 Distribution of Private Housing Forecasted Demand by Municipio Four Years Period: 1986-1990 MAP 20 Regional and Price Distribution of Private Housing Forecasted Demand Four Years Period: 1986-1990 Values at 1985 Prices 89 88 87 86 85 84 83

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L I S T OF TABLES
Page TABLE S - 1 Expected Demand for New Private Housing Units Under Alternative Scenarios TABLE RF-1(a ) Distribution of Forecasted Demand By Region and Price Per Year: 1986-1990 (price in thousands of constant 1980 dollars TABLE RF-1(b ) Distribution of Forecasted Demand By Region and Price Per Four Year Period 1986-1990 (price in thousands of constant 1980 dollars TABLE RF-2(a ) Distribution of Forecasted Demand by Region and Price Per Year: 1986-1990 (price in thousands of constant 1985 dollars TABLE RF-2(b) Distribution of Forecasted Demand By Region and Price Per Four Year Period 1986-1990 (price in thousands of constant 1990 dollars TABLE RF-3(a ) Distribution of Forecasted Demand By Region and Price Per Year: 1986-1990 (price in thousands of constant 1980 dollars TABLE RF-3(b ) Distribution of Forecasted Demand By Region and Price Per Four Year Period: 1986-1990 (price in thousands of constant 1980 dollars 70

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TABLE RF-4(a) Distribution of Forecasted Demand By Region and Price Per Year: 1986-1990 (price in thousands of constant 1985 dollars TABLE RF-4(b ) Distribution of Forecasted Demand By Region and Price Per Four Year Period: 1986-1990 (price in thousands of constant 1990 dollars TABLE MF-1 Expected Demand For Private Housing By Municipio and Region TABLE MF-2 Expected Demand For Private Housing By Municipio and Region MATRIX 1 66

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PROLOGUE
This report summarizes the result of a research project carried out by CORPLAN, Inc. under an engagement from the Puerto R i c o Banker's Association. The purpose of the study is to forecast the demand for housing in Puerto Rico for the period 1987-1990. This forecast covers seven regions and a l l municipalities. In addition, the expected price distribution of forecasted demand for private housing has been generated. This report could prove to be a valuable planning instrument and a unique reference source on regional information of interest for both the private and public sectors. The data have been translated into charts in order to provide the reader as much information as possible without unnecessarily burdening him with the need to search over lengthy tabulations.

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EXECUTIVE SUMM ARY

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After a decade of recession and stagnation, several recent trends can be expected to favor growth conditions in the construction industry for the next years. Mortgage interest rates have reached the lowest levels in the past nine years. Total employment in Puerto Rico has passed the 800,000 level for the first t i m e . However, the present housing market structure is clearly polarized. A postshelter market has developed in the higher price ranges for new homes. Financial motives drive decisions to buy in this market. The price structure derived from the interplay of demand-supply forces in this market, together with high construction and finance costs, continues to keep vast numbers of Puerto Rican families from the housing market. Only government subsidies permit entry. Puerto Rico's housing market is divided in three broad categories. These categories respond to a clear and dramatic polarization. A thriving market for highpriced housing is evident in certain areas. On the other hand, an overwhelming number of families have been priced-out of the housing market. An intermediate market for new housing units is still present but not quite near the levels experienced in Puerto Rico during the 1960's and very early 70's. Buyers in the high-priced housing market operate following criteria which are essentially of a financial nature. Families at the higher income brackets, driven by the spur of inflation and urban processes which have produced neighborhood decay, enter the high-priced housing market with objectives which are beyond the acquisition o f shelter.
Family assets, of which equity on a previously owned house is an important element, and which have appreciated in value as a result of the inflationary processes experienced in recent years, are marshaled to enable entry into this market. This allows a degree of insensitivity to prices. In fact, price inflation becomes a stimulant in this market as it reinforces the perception that by not buying now an opportunity loss will be incurred.

Thus, families which have already solved their shelter needs enter the housing market in order to protect their assets, in response to decaying neighborhoods, the search for quality o f life and personal protection, and to cash into the appreciation experienced by their assets. It is likely that effective demand for private sector supplied housing will reach, on the average, 11,091 units per year, i . e , a total of 44,364 units for the four years forecast period. An alternative, more optimistic scenario was obtained on the basis of yet lower mortgage rates. This scenario forecasts an average 13,201 units per year for the period. The base scenario yields an effective demand, sustained by underlying measurable economic factors. I t w i l l average 10,765 units at prices below $70,000 on 13

a yearly basis. The more optimistic scenario yields 12,814 units w i t h i n this price range. Prices are valued at constant 1985 dollars. The strongest demand for housing units w i l l be registered i n the West Metropolitan Area, i . e . , Region 4. The weakest demand conditions are expected i n the Arecibo Area, Region 3. i.e.

Homes i n the $70,000 and over price range w i l l experience strongest effective demand i n the San Juan Metropolitan Area, i . e . , Region 7 and i n the West Metropolitan Area, i . e . , Region 4. F i f t y percent of the effective demand w i t h i n the prices brackets $85,000 to $105,000 and $105,000 to $140,000 can be expected to be localized i n San Juan Metropolitan Area, i . e . , Region 7. For the price bracket above $140,000, approximately f i f t y percent of the demand w i l l be generated i n the West Metropolitan Area, i . e . , Region 4. There are other factors, not subject to measurement at the moment that can continue to fuel demand i n the high price brackets. For instance, the presence of a large underground economic sector, and changes i n the f i n a n c i a l markets due to tax changes or to the perception of better y i e l d s i n real estate vs other investment alternatives. The forecasts may a l s o underestimate to a degree the potential i n the high price ranges. This would be m a i n l y due to biases i n a v a i l a b l e data sources because of apparently widespread under-reporting of income. The forecasts are to be interpreted as the e f f e c t i v e demand stemming from the socioeconomic conditions which can be derived from the a v a i l a b l e economic and demographic data.

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I.0 Introduction The housing construction industry of Puerto Rico has experienced a gradual recovery during the last two years. An expansion of total production, employment, and population should be accompanied by an adequate increase in the housing stock so as to provide balance to the economy. In fact, this process constitutes a factor of decisive importance in the promotion of social stability and orderly urban growth. Puerto Rico has become predominantly urban in a very short span of time. Simultaneously, demographic changes of great importance have taken place across the Island, changing needs and preferences in all markets. The housing construction sector and financing sectors must respond to the varied and complex housing requirements of this highly dynamic society. Needless to say, this is done through the market processes and market conditions. The market places limits on all participants. 1.1 Objectives The purpose of this study is to forecast the demand for housing in Puerto Rico for the period 1987-1990 at the Island, regional and municipal levels of aggregation. In addition, a price distribution of the expected demand for housing during the forecast period has been generated. It is hoped that this study will lead to a better understanding of the complexities of Puerto Rico's housing market and help it to fulfill the key role that it should play in the economic future of Puerto Rico. The present study builds upon the experience of a previous study by CORPLAN, INC. published in 1982 by the Puerto Rico Home Builders Association, under the title Regional Demand for Housing: Puerto Rico 1986. That earlier work provided

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accurate forecasts for the aggregate and regional levels of housing demand, given the path that total employment and mortgage rates took during the 1982-1986 period. 1.2 Analytical Approach and Scope This report is intended to constitute a lasting reference source on regional information about Puerto Rico. The data have been analyzed and translated into charts and maps in order to provide the reader with as much information as possible without unnecessarily burdening him with the need to tackle lengthy tabulations or cumbersome narratives.

The scope of research has been directed to effective market demand for housing to be supplied by the private sector in Puerto Rico. Nevertheless, the results and regional information and insights that were shed by the project, should be useful to government agencies involved in trying to deal with the needs aspect of housing demand in Puerto Rico. Due to the imponderable nature of the factors that determine public housing construction, forecasts have been focused mainly on the activities of the private housing market. In order to attain the objectives of the study, an analytical system consisting of econometric models has been designed. The models were estimated and then implemented through a computer simulator that allows evaluation of multiple alternative scenarios. To manage the large masses of aggregate, regional, and municipal data on housing, economic, demographic, and social traits, CORPLAN, INC. designed,

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developed and implemented a computerized information system. These databases are necessary to generate the forecasts, as well as cartographic illustration of those geographic patterns that characterize the regional and municipal spatial distribution of several Key variables and indicators. For analytical purposes, the Island was divided into seven (7) regions. These are depicted in Map 1.

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Map - 1

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The regional code numbers and names are: 1) 2) 3) 4) 5) 6) 7) Region Region Region Region Region Region Region 1: Ponce 2: Mayaguez 3: Arecibo 4: West Metropolitan 5: East Metropolitan 6: South Metropolitan 7: San Juan Metropolitan

Map 2-A indicates the geographical location and municipal boundaries for all municipios in Puerto Rico. Map 2-B presents the code number assigned to each municipio. The municipal code numbers were assigned following their alphabetical rank order. 1.3 Housing Needs in Puerto Rico Potential demand in Puerto Rico, understood in terms of the unsatisfied need for adequate housing, is large indeed. The U.S. Census of Population for 1980 counts 757,645 families residing in Puerto Rico. There were 969,611 year-round housing units in the Island in 1980 of which 867,697 were owner-occupied. Of these, 131,649 are classified as inadequate according to the criteria established by the Census Bureau. The median value of owner-occupied housing units in Puerto Rico in 1980 was estimated by the Census Bureau at 19,800 dollars. Median family income estimated for that year was 5,923 dollars. Therefore, under the 3 to 1 rule of thumb, the median family of Puerto Rico would have been unable to obtain financing to buy the median priced house available in 1980. 1.4 The Construction Industry: Recent Trends and Outlook Since the 1978-83 periods, when housing construction suffered an additional setback under the heavy impact of high mortgage rates, stagnant family incomes, and

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widespread economic uncertainty related to Section 936, a significant recovery has been observed and is reflected by the following indicators: 1) Residential construction by the government sector reached a value of 111.3 million dollars in fiscal year 1985, the highest since 1981. 2) In fiscal year 1985 private residential construction increased by 4.5 percent, reaching a level of 253.8 million dollars. 3) The value attained by residential construction during 1985 amounted to 365.1 million dollars, the highest since 1981. 4) Short term indicators point to increasing activity levels in 1986. Compared with the same period during the previous fiscal year, in July-March 1986 there were increases of 14.2 percent in the value of residential building permits, 5.7 in the number of housing units constructed, 21.9 percent in the value of new housing units, and 1.9 percent in cement sales. The future performance of Puerto Rico's housing sector will depend on the growth of employment and family income. The basic constraint on the expansion of housing construction in Puerto Rico is not the availability of loan able funds, but the low levels of average family incomes. 1

A common rule for determining qualification to a mortgage loan is the ratio of the mortgage amount to annual gross income. A ratio higher than 3 would in general disqualify the applicant for the loan. The median ratio in this case is 3.34. 20

Map - 2

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Thus, even though potential housing demand may be huge, effective demand can only be felt in the market if general economic conditions increase family incomes. Improving economic conditions, together with lower interest rates, can bring back middle income families into the housing market. Changing conditions related to the relative yields of return on investment in alternative financial assets may produce dramatic changes in the housing market as speculative demand quickly reacts. There are other elements worth mentioning at this point which augur better times for the construction industry in general. Among them: 1) The manufacturing sector of the Island is expected to be helped by the forward drive of the United States economy. If no recession takes place during the next two years in the U.S. economy, this may lead to a rise in industrial promotions by the Economic Development Administration and to expansions of already established concerns. 2) The reduced uncertainty related to Section 936 of the U.S. Internal Revenue Code will lead to the development of expansion projects which had been waiting for a decision on this crucial issue. 3) The sharp decline in mortgage interest rates and the expectation that they will remain low. 4) The significant reduction in oil prices will contribute to cost reductions in the construction industry freeing additional purchasing power which could be channeled to investments in housing. In addition, several policy measures recently announced by the Commonwealth government are also expected to stimulate investment in construction. These are: 1) The development of public works amounting to 1.07 billion dollars during the next three years will improve the infrastructure of the Island and generate a high multiplier effect on income and employment levels. 22

2)

The creation of the Mortgage Trust Program, with the objective to revitalize the construction industry and channel 936 funds toward investments in housing. The Puerto Rico Finance Corporation has already negotiated the sale of 220 million dollars in notes and bonds for the Mortgage Trust, which is expected to be translated into the construction of 3,000 new homes.

3)

A proposal to establish a corporation for urban development, to provide infrastructure and land for construction of homes by the private sector.

4)

A joint plan of the Land Authority and the Land Administration to transfer, free of charge, surplus land to the Department of Housing for the development of new housing projects.

5)

The ongoing plan to review and relax certain regulations affecting the construction industry.

6)

A Task Force organized by the Department of Housing and Urban Development (HUD) and the Mortgage Bankers Association to develop an Affordable Housing Project in Puerto Rico.

7)

The Puerto Rico Treasury Department granted tax exemption for the interest earned in refinancing FHA and VA mortgages, allowing financing institutions to lower mortgage interest rates on those types of loans.

8)

Puerto Rico has issued Serial Notes Pools, an alternate certificate to stimulate the acquisition of mortgages for individual and corporate investment portfolios to contribute to the growth of the local secondary market.

9)

Legislation to stabilize mortgage payments for the life of the loans has been recently signed by the Governor.

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1.5 Constraints Faced by the Construction Industry 1) Residential construction will register a modest but steady growth during the next two fiscal years. The presence of limiting factors, the most notorious being the crisis at Puerto Rico Aqueducts and Sewers Authority's (PRASA) waste water treatment plants, will restrain a strong recovery of the housing sector. Map 8 identifies the location of each of the water treatment plants in Puerto Rico.

However, PRASA has been forced to draw an emergency plan to deal with this situation. A long-term investment plan expected to reactivate most of the arrested plants within the next two years will lead to the construction of several regional plants in Guayama, Humacao, Fajardo, Dorado, and Caguas. Plant building by PRASA will amount to 400 million dollars and total investment foreseen may surpass 1.2 billion dollars. Map 9 presents the expected release dates for each plant according to the PRASA's plans as stated in documents submitted to United States District Court for the District of Puerto Rico in response to Interim Order Paragraphs 3 and 4 on May 27th, 1986. The strain inflicted by the waste treatment facilities condition on the island's housing sector caused the delay in the construction of more than 9,000 housing units. A planned investment of 180 million dollars was, thus, hampered.

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2) Efforts to curtail the federal deficit may imply reductions in several programs oriented towards the promotion of housing for low-income families. Even if housing programs are not curtailed, a stagnant or declining aid to low income families in Puerto Rico will further weaken their purchasing power squashing their effective demand for housing. This will contribute to dampen the stimulus stemming from an otherwise highly active economy and from other favorable institutional conditions. 3) A third constraint may arise from the tax reform expected to be legislated by the United States Congress this year. It is anticipated that, in its early stages, an investment slowdown caused by the elimination of some tax loopholes will occur. Spill-over effects will be felt in Puerto Rico. 4) But surely the most important constraint on Puerto Rico's housing market still is low median family income in relation to a high price market structure. 2 2.0 A Profile of Today's Housing Market Structure The construction industry in Puerto Rico suffered greatly during the years after the first oil shock. Total employment in construction, which reached a total of over 80,000, was suddenly cut by half in a period of a few years. Construction's share contribution to total employment has dropped from 11.5 in 1971 to 4.6 percent in 1985. 3

Levels of delinquent mortgage loans in Puerto Rico are higher than United States averages. In May, mortgage loans with installments past due were at a level of 9 percent in Puerto Rico. This compares to 5.57 for the United States, However, data for the entire fiscal year 1985 indicate that delinquency rates were slightly lower than the national average for HUD's Early Default Ratio. Another indication of the intense nature of the housing problem in the Island is the fact that the Housing Department currently has an inventory of more than 8,000 repossessed, mostly abandoned units. There is also some wariness regarding proposed legislation that would require states to bring at least 90 percent of their public housing up to federal standards as a precondition to obtain building funds. Graphs 1 and 2 illustrate the behavior of private and public housing investment in current and constant dollars for periods 1960-85 and 1970-85 respectively.
3

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However, the industry's plight has not been an exception. Other sectors of the economy have undergone severe strains during the past decade. In fact, the economy of the Island has gone through a tortuous and painful decade. Recessions, inflation, chronic unemployment, infrastructure decay, and urban problems have inflicted a heavy and lasting toll. After experiencing rapid growth during the 1960's, real family incomes have stagnated. Capital formation and average real family assets accumulation have experienced net losses since 1972. Two especially painful periods were fiscal years 1975 to 1977 and 1982-1984. During these two, the combination of high interest

rates, high unemployment, and declining real average family incomes produced a general climate of pessimism in Puerto Rico. These economic circumstances acted upon the general psyche in such fashion as to generate a high rate of social discount and, thus, of the perceived valuation of assets in general. 4

Graphs 3 and 4 illustrate the historic behavior of the Federal Home Loan Bank Board mortgage and the prime interest rates. Graphs 5 and 6 show the constructed series on real average family assets valuation. This variable plays an important role in the forecasting model. This variable measures the way families view their present economic financial position. This financial position is a function of present and past incomes, the inflation rate, and the general state of the economy, as perceived from the employment environment. It was obtained as the present value of a constant stream of income, set at the level of real average yearly family income in constant 1954 prices. The average prime rate prevalent in each was used as a discount factor in order to account for time preferences. Graph 6 plots the observed values for this variable together with the values generated by an equation that accounts for it in the model. Graph 7 shows percentage changes in family assets valuation. Notice the deep recessive periods in 1975-76 and 1980-84.

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An intriguing circumstance calls the attention of even the most casual observers. Sectors, in an otherwise stagnant economy, show surprising vigor and dynamism. The financial services industry, spurred by the supply of 936 funds, U.S. banking deregulation, and rapid advancements in the communications and computer technology, constitutes a prime example of this dichotomy. But the phenomenon is not circumscribed to sectors experiencing the same growth worldwide. The housing sector in Puerto Rico is exhibiting a similarly distorted behavior. The coexistence of a depressed segment of the private housing market, with a very active market for high priced homes, is a source of puzzlement to many observers and wariness to the financial community. 5

Cf. Lissette Nuez, Visos de Saturacin en el Mercado de Casas Caras, El Nuevo Da, Sunday, September 7th, 1986, p.8.

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But in fact, this apparent incongruence is a reflection of an economy reacting to circumstances with predictable behavior. Economic and institutional environments have redirected the allocation of capital in patterns that explain the above mentioned paradox. Speculation in the high priced housing market is responsive to investment allocation behavior. Demand in this market is not necessarily for housing or shelter. It is a demand for a real financial asset, responsive to essentially financial motives. Speculation is usually associated with negative connotations of the meaning of the word. Here it is used in its purest form in order to explain investment patterns responsive to changes in the economic and institutional environments. It is in this sense that the most active housing construction market in Puerto Rico today can be largely referred to as speculative in nature. Speculative demand is almost impossible as a subject of forecasting. It can only be anticipated in view of the set of conditions that produces its behavior. But the set of circumstances itself is per se unpredictable. The main stimulating forces acting on the housing market in Puerto Rico are unpredictable. On the other hand, the forces acting express the market can be safely predicted and will be present for the next five years. The public sector complicates the picture even further, given its past performance, introducing an even higher degree of uncertainty in the market. The larger segment of the market, the one that would presumably respond to predictable economic forces, lies today trapped between intense forces. These forces stem from the extreme needs for adequate shelter present among a large number of families, and from the widening gap between family incomes and market values for homes. This is further complicated by the absence of rental housing as an alternative in

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Puerto Rico. Government subsidies have been used in many forms to breach the gap with varying success and enormous costs. These circumstances are discussed in more rigorous terms in Section 5.0, which provides the theoretical framework to this study. Econometrics works through past behavior recorded through available

measurements. If past behavior and conditions can be assumed to continue their respective path into the future, and if available data are good measurement of past activities, a good bet can be placed on the forecasts. 3.0 The State of the Housing Industry in Puerto Rico: 1985 3.1 Contribution to Aggregate Productivity

Like other sectors of the construction industry, activities associated with housing construction generate demand for other goods and services produced by local industries. Housing construction, in the short run, adds significantly to aggregate levels of gross product, income and employment. The Puerto Rico Planning Board estimates that each million dollars invested in construction generates 1.84 million dollars of production and sustains approximately 100 jobs. Residential construction has played an important role in the economic development of Puerto Rico. It was partly responsible for the high rates of growth experienced in Puerto Rico during the booming decade of the 1960's and very early 1970's. The construction industry has its share to account for with respect to the deep collapse of the economy after 1972-73. Housing, as part of any nation's capital stock, produces a stream of services over a long period of time. It also generates significant employment and income flows during the construction stage. It thus contributes to aggregate investment, employment, and income growth.

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On the other hand, the housing stock absorbs enormous amounts of savings without generating proportional flows of real production or income. 6 Investment in housing produces a short run image of prosperity as employment rises, and expenditures related to the construction phase take place. But, if other sectors of the economy falter and demand for new housing flatten, construction rates diminish producing a negative multiplier effect which hurts income, employment and production. The housing stock remains in place, though. And, even as it continues to produce housing services and imputable income, mortgage payments and maintenance demand cash payments. The special characteristic of the housing component of the capital stock requires careful policy guidance, in order to avoid negative impacts on productivity that may arise from a capital mix that is not well balanced between the service producing components, such as the housing stock, and other real production components, such as machinery and equipment. The lack of such insight and guidance permitted the overbuilding that took place in Puerto Rico during the late 60's and early 70's, and the eventual collapse of the industry during the 1974-75 recessions. 3.2 Current Construction Activity A survey made by the Puerto Rico Planning Board, indicates that 1987 investment in housing will grow at a rate of 3.3 percent (380.6 million dollars). Eighty three percent will be generated by the private sector. Approximately 90 private housing projects will be started in fiscal year 1987. The public sector is expected to invest 64.7 million dollars in housing projects (a 10.2 percent increase over the previous year). A set of tables, with data for each of the seven regions used in this study and for each municipio within each region, is included in APPENDIX 1. These tables provide

Except for rental income flowing from that portion of the stock being rented.

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the latest available information on housing units constructed by the private sector. Average values for the private and total number of units are included. Housing construction data is presently so unreliable that Planning Board estimates for units constructed during 1984-85 go from as high as 12,459 to 7,996 units. The latest official figure available estimates that based on construction permits information, 9,243 units were built during that year. Planning Board estimates for projects over 100,000 dollars, being based on construction permits data, may overestimate construction during 1984-85. The issuance of permits does not guarantee construction during the year of issuance. More than fifty (53.97.) percent of these were to be constructed in San Juan, Guaynabo, and Bayamon. Puerto Rico Planning Board figures for investment in construction during fiscal year 1984-85 in ten municipios with the highest accumulated values in private housing yield a total figure of approximately 138 million dollars. The investment figures for these municipios are listed below:

MUNI CIPIO San Juan Bayamon Guaynabo Caro1i na Caguas Toa Baja Toa A1ta Ponce Lo i za Dorado

Million $ 47.9 24.3 22.6 9.7 7.7 6.9 6.6 5.1 4.2 1.3

4.0 The Demographics of the Housing Market Population is the most important long-run determinant of the potential demand for housing. Both the rate of growth of population and changes in the age structure are 37

highly influential

factors on the long run prospects of the housing sector. Although

short run factors, such as changes in the mortgage rate, in the level of family income, in construction costs, and in employment levels may be predominant in the determination of short-run effective demand (for periods less than five years), the long-term trends of population are the relevant determinant of the demand for residential construction. 4.1 Major Trends The population of Puerto Rico grew at an annual rate of 1.7 percent from 2.7 million in 1970 to 3.2 millions in 1980. Preliminary estimates from Puerto Rico Planning Board indicate that from 1980 to 1985 the total population grew at an annual rate of 0.5 percent, reaching a level of 3.3 millions. The pattern of growth deceleration of the previous decade, thus, continues. Migration constitutes the real determinant of both the size and age composition of Puerto Rico's population. Fertility rate will further decline to 2.44. Declining fertility rates (3.45 in 1970 vs. 2.79 children per woman in 1980) and a continuing pattern of net migration of younger cohorts of the population are expected. Total population is estimated to reach a level of 3.4 millions in 1990. In that year the median age will reach 28.1 years. The median age increased at a steady rate, reaching a level of 24.6 years in 1980 and 26.7 years in 1985. For the year 1990, the median age of the male and female populations will attain 26.9 and 28.1 years, respectively. This represents an approximate increase of 14.2 percent in the median age of the population of the Island in a span of 10 years. For purposes of comparison, bear in mind that the median age of the U.S. population was estimated to be 30.6 years in 1982. 4.2 Regional Trends

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The most dramatic event, expected to have long lasting implications during this decade for all aspects related to housing demand, refers to the expected changes of the age composition of population among regions in Puerto Rico. The differential growth of certain age cohorts that will take place during the present decade is of special interest to the housing industry. The speed with which large geographic areas of Puerto Rico will increase their population age groups 45 and over represents an important phenomenon with wide economic and social implications. The age group 65 and over represented 7.9 percent of the total population of Puerto Rico in 1980. This group will have experienced a 19 percent increment by year 1990. Some implications can be drawn as a result of changes in the regional agedistribution. Region 7, which includes San Juan, Trujillo Alto and Guaynabo, has already experienced significant increases in the 45 and over age component. The rest of the regions will continue to experience two self reinforcing trends: the migration of the younger cohorts and increases in life expectancy. The reductions in birth rates, the increases in longevity and the migration of the young will produce large increases in the 45 and over component of these regional populations. Patterns of needs and demands will surely change in response to such changes in the regional age composition of the Puerto Rican population. The market does not show strong indications of accommodation to this important demographic dimension. Although at first sight, these populations would be expected to constitute a wealthier market, they may indeed be the opposite. The median family incomes in the non-metropolitan areas of Puerto Rico are at low levels. In fact, real average family income in Puerto Rico decreased from 5,315 dollars to 5,125 dollars (measured at constant 1954 prices). The inverse relation observed among those regions expected to

39

have the highest increases in the older components of population and the regional distribution of median family incomes, is dramatically illustrated in Maps 12 to 15. Across all regions of Puerto Rico the 24 to 44 years age cohort will experience positive rates of growth, ranging from a low 0.11 percent in Region 7 to a high 14.26 percent in Region 2. However, in all cases, the rate of growth of cohorts 45 and over will be significantly higher, ranging from a low 8.57 percent in Region 7 to a high 41.24 percent in Region 5. These are explained by migration movements, i.e., the flight of the younger age groups and the coming of age of the baby boom generation on greater longevity trends. The most significant growth in population during the 1970 to 1980 decade taking place among the seven regions identified in this study was registered by Region 5 (East Metropolitan), while the lowest rate of growth was observed in Region 7 (San Juan Metropolitan). Puerto Rico Planning Board projects that the same pattern will prevail during the present decade, although at much lower rates. The most dramatic slowdown in population growth will occur in Region 1 (the Ponce Region), where totals increase for the period will amount to only 1.4 percent. In fact, in Region 7, population will actually decline by 1.4 percent. Map 3 presents the spatial distribution of population in Puerto Rico and its behavior during the past two decades as well as the projected levels by municipio expected for year 1990. This map dramatically depicts the high concentration of population in the great San Juan Metropolitan Region, which characterizes the Island today. Maps 4, 5, 6, and 7 contain a treasure of demographic information. Maps 4 and 5 show the regional percentage changes in population that took place during the 19701980 periods. This is represented by the relative height of the regional blocks. The percentage change in population for each municipio is represented by the height of the arrows placed on them. The regional percentages, together with the highest and lowest 40

percentage changes for municipios within each region, appear on the top part of the map. This pattern of presentation was chosen for most of the cartographic material. Map 5 refers to the 1980-1990 period.

41

42

43

44

Maps 6 and 7 bring forth changes that have taken place on the age composition and geographical distribution of population in Puerto Rico during the 1980's and the expected distributions for the year 1990. Map 6 presents the pattern forecasted for age cohorts 24 to 44. Under normal circumstances, this is the most important population segment in terms of new housing units. Map 7 presents the forecasted pattern of the 45 and over age groups. Given present circumstances in Puerto Rico, this group becomes especially significant in its distribution and size. 5.0 Theoretical Framework The housing market in Puerto Rico is at a state of intense polarization and clear segmentation. The three basic market segments are discussed in the following sect ions. 5.1 The Speculative or Post-Shelter Market

Certain phenomena with important market implications have occurred within Puerto Rico's socioeconomic structure during the past twenty years. The housing market has been specially affected by these developments. The industrialization of Puerto Rico, which began during the late 1940's, and the subsequent urbanization and spatial distribution of its population and wealth, constitutes a crucial complex of elements

45

46

47

that helps to explain certain perplexing processes now taking place in the housing market. Puerto Rico's housing market is divided in three broad categories. These categories respond to a clear and dramatic polarization. A thriving market for high-priced housing is evident in certain areas. On the other hand, an overwhelming number of families have been priced-out of the housing market. An intermediate market for new housing units is still present but not quite near the levels experienced in Puerto Rico during the 1960's and very early 70's. Buyers in the high-priced housing market operate following criteria which are essentially of a financial nature. Families at the higher income brackets, driven by the spur of inflation and urban processes which have produced neighborhood decay, enter the high-priced housing market with objectives which are beyond the acquisition of shelter. Family assets, of which equity on a previously owned house is an important element, and which have appreciated in value as a result of the inflationary processes experienced in recent years, are marshaled to enable entry into this market. This allows a degree of insensitivity to prices. In fact, price inflation becomes a stimulant in this market as it reinforces the perception that by not buying now an opportunity loss will be incurred. Thus, families which have already solved their shelter needs enter the housing market in order to protect their assets, in response to decaying neighborhoods, the search for quality of life and personal protection, and to cash into the appreciation experienced by their assets. 7

The changing family organization is also a factor that generates demand for certain types of housing. The couple whose children have already left home and seek an apartment vs the larger house they presently have and which becomes even more difficult to keep tidy and safe; the increasing number of one head family households due to increasing divorce rates and latter-in-life marriage; and other changing life styles. Some of these factors, though,

48

There are other factors present which provide incentives to the speculative demand for housing and real estate in general. One of the most important is the interest rates impact on taxable income, given present tax laws of Puerto Rico. Another important factor undoubtedly at work is the size of what can be called the underground economy for lack of a better word. The size of the unmeasured income flows derived from this sector of the economy has been estimated with a range of 20 to more than 30 percent of Puerto Rico's gross product. To a large extent, it is for these reasons that financial decisions drive the highpriced housing market. The prices established by the demand-supply forces operating in the high-priced market in conjunction with other costs, determined by labor, materials, land values, government regulations, and demand forces, interact to establish a market price which drives most of the Puerto Rican families out of the non-subsidized housing market. Effective demand in the high-priced market becomes then a function of accumulated family assets (wealth) and finance costs (mortgage rate of interest). Demand within this market is determined by the number of families in high income and wealth brackets. As mentioned previously, demand in this market is relatively inelastic with respect to price. In fact, price inflation may constitute a stimulant as it appreciates family assets and provides an incentive to invest in new housing with the expectation of yet higher returns. On the other hand, finance costs can become a binding constraint on this market at high interest rate levels. Therefore, reductions in mortgage interest rates can generate significant increases in demand.

create a supply of existent homes for sale in the market. Prices for these homes are influenced by the same factors that are determining the going price in the market.

49

5.2

The priced-out market

Effective demand in this market is highly elastic with respect to price and to the cost of finance. The price established in all markets by the speculative (or post-shelter) demand, in interaction with high supply and finance costs, drives most families out of the nonsubsidized housing market. Only increasing real family incomes would provide some relief. Family assets do not constitute a sufficient entry vehicle into this market. The reason being that equity on a previously acquired house is a large portion of these families assets. The depressive state prevalent within the housing market, in which houses owned by these families are marketed, selling without incurring in a capital loss, becomes difficult. Paradoxically, it is not wealth but poverty what may enable a family to acquire a house under this economic environment. Although, this happens only through a government subsidy program. This has been the prime determinant of entry into this market for the last ten years. 5.3 The sought-after market

The traditional housing market in which Puerto Rico's middle class families were able to enter in great numbers during the 1960's and very early 1970's can be named the sought-after market. This market has become very elusive in Puerto Rico. It is the market which became predominant during the construction boom of the late 60's. In fact, when many experts refer to the problems of the housing market in Puerto Rico, the subject of their attention is indeed that nearly absent market of yesteryears. Effective demand within this market is relatively elastic with respect to price, as well as very sensitive to finance costs and to the general states of the economy. It is not

50

surprising then, that the deteriorating economic environment which has predominated in Puerto Rico for more than a decade, has depressed this important market. Diagram 1 illustrates the supply-demand conditions now present in Puerto Rico's housing market. The three markets are shown in their price interrelationship. The demand supply force in the speculative high-priced market set the prevailing price level in all markets (PV). At that price only a fraction (D?) of potential demand can be made effective in the sought-after market and none in the priced-out market. Only government subsidies could compensate for the difference between PV and the viable price at any point on the demand curve D3, to make any portion of that potential demand effective.

51

52

5.4 Model Specification The description of the structure that characterizes Puerto Rico's housing markets has been discussed in the previous section. In order to incorporate the theoretical framework that has been suggested in a systematic manner subject to measurement and quantitative analysis a model must be constructed. The model is then subjected to statistical methods. The constituent elements of the model are in the form of functional expressions which establish dependency relationships between the variables. The model developed in this section is based on three underlying phenomena simultaneously at work in the market: 1) A speculative movement driving a very important segment of the market. 2) A price drifting process. This inflationary movement drives up the price of housing as a result of forces independent from the income potential of families with the most urgent need for a home. 3) A large potential demand which has been effectively contained by high financing costs and low real family income growth. Numbers 1) and 2) above are not easily derivable from available data. The model generates forecasts for that portion of total demand associated with income, wealth valuation, finance costs, and demographics. The speculative demand obviously cannot be subjected to this Kind of systematic treatment. 8

Other analytical methods can be applied to this behavior. For instance, the application of simulation or Montecarlo model and game theory come to mind.

53

5.4.1 Functional Specification The specification of both the sector model and the regional distributive model are based on a mathematical interpretation of the observed behavior of the housing market in Puerto Rico. This behavior can be expressed as follows. The market demand for housing within a particular price range is a function of the number of families within a particular income bracket at any given point in time and in a particular geographic location; their wealth; the prevalent mortgage interest rate; and the prevalent rate of inflation., This model is expressed in symbolic terms in E1) below. E1) h iDlhit = fl (Nhit, whit; rt,pt)

Where: D hit
l
=

market demand for housing exerted in municipio i (i = 1, 78) and

year t by families within income bracket h; N jt = number of families within income bracket h in year t; W
h h

it = average net worth of families within municipio i and income bracket

h in year t. Given the fact that no data emanating from a study on the distribution of wealth in Puerto Rico is available, a proxy variable which attempts to measure family wealth has been defined. Wealth can be expressed in terms of a discounted future income stream. The general expression can be written as: E2) W it =
h

Yh / (1 + r)

54

5.4.2 Econometric Specification The econometric sector model developed to forecast the effective demand for housing in Puerto Rico consists of four homogeneous equations. For purposes of econometric parameter estimation, the equations are linearized by expressing variables in their logarithms. The equations have the following general form: E3) Yt = A X1t Where: Yt = the dependent variable A = the scale elasticity Xit = explanatory variable i for year t ai = elasticity coefficient of Yt with respect to Xit Et = a stochastic variable Equation E3) may be expressed more conveniently in logarithmic form: E4) Log Yt = AEj Log Xjt + Log E
a1

X2t

a2

X3t

a3

Et

A very useful property of E4) is that the elasticity coefficients are

directly obtained from a linear regression fit.

The equation which explains a total number of private new housing constructed per year in Puerto Rico is: E5) Log NUP = Log A + a1t Log N1t + at Log
t

w2t + a3t

Log r4t + a5t Log Pt Log e1t

55

Where: NUP = number of private housing units in fiscal year t H1t = number of families in fiscal year t W2t = perceived valuation of real family assets from time t into future time t = 5;
r t

4t = Federal Home Loan Board Bank Mortgage Rate of Interest in fiscal year t Pt = implicit price deflator for construction expenditures in fiscal year t

ai and A = Are parameters estimated from the regression model by least

squares procedure. Perceived family valuation of wealth depends, therefore, on two crucial variables: income and a discount rate. Total employment has been chosen as a general indicator of expected future income streams as perceived by families on the average at any particular point in time. The prime bank rate has been chosen both as a measure of time preference and a discount factor. The wealth equation in the sector model can be written as E6) below:

E6) Log t = 1 Y it = Log B + b1 Log Eit

Where:

5 h

b1

+ b2 Log r*t + Log e2

t =

1 y it

5 h

Real average family income in fiscal year t at constant 1954

prices accumulated and discounted for five future periods. Eit

b1

= Total employment in fiscal year t;

r*t = Average prime bank rate of interest in fiscal year t; A, b1 and = Parameters obtained from least squares fit; 56

e2

= Error term.

The regional distribution model is similar to the aggregate sector model. The differences between both models stem from imperatives related to the sort of data available and necessary regarding both sets of analysis. Aggregate yearly data for the period 1960 to 1985 (fiscal years) was used to estimate the parameters of the sector model while a pool of cross section data and time series from 1980 to 1985 calendar years was used for purposes of estimating the regional model. The heart of the regional demand distribution model for private new housing rests on an equation which yields the ex ante probability that if a housing construction permit is issued in Puerto Rico the location for construction be a particular municipio. Equation E7) below expresses this relationship in symbolic terms. E7) W i = Where:
hh

(N i, W

ii = 1

78 h W i,D)

hh i

= Probability of construction of new private housing of value range h

in municipio i;

57

N
bracket h;

i = Percentage change in the number of families

within income

W i = Total perceived valuation of average family assets for all families within income bracket h residing in municipio i;

I = 178Whi

= Total perceived valuation of average family assets for all

families residing in Puerto Rico. To estimate this regional distribution model of private housing the following equation was estimated with cross sectional data for all municipios in Puerto Rico. Data include changes in the number of families estimated by the Puerto Rico Planning Board and estimation of family wealth which is discussed further on. The econometric specification follows. E8) Log p
hh

= Log C + c1i Log N i + c2i

Log W i + C3i Di + Log e3 Pi = Ex post (observed during 1980-1985 period) probabilities that a construction permit for private housing is issued for a project at municipio i; Pi/ =1 Pi
i 78

= Construction permits issued for private housing in

municipio i during period 1980 to 1985;

i=178pi = Total number of

construction permits for private housing issued for

all municipios in Puerto Rico during period 1980-1985;

58

D = A dummy variable accounting for urban centers according to a predetermined hierarchy; D = (0, 1, 2, and 3). 6.0 Measurements and Estimation Procedures The principal objective of this study is a forecast of housing demand in Puerto Rico to be supplied by the private sector for the period 1987 through 1990. This forecast is to be distributed at the regional and municipal levels. Furthermore, the price distribution of demand for private housing is to be estimated based upon available published data. The wealth variable 9 was obtained after an analytical process which took several steps. The first phase of the analysis necessary to construct a wealth variable required a study of the available family income data. U.S. Census of Population and Housing data on family incomes were pooled together with income tax returns data in order to generate an approximate family income distribution for Puerto Rico. 10 A mathematical procedure permitted the estimation of a coefficient which serves to distribute families among income brackets above 35,000 dollars up to 150,00 thousand dollars per year. Within this range of family income, as income increases the number of families at successively higher level of income decrease at a rate of 1.29 percent per each percentage increase in the level of income.

9
10

See Graphs 5 and 6.

See Graphs 9 and 10. These Lorenz Curves provide a measure of distributive equality of Adjusted Gross Income as it is reported by in income tax returns. Under-reporting biases this distribution as it is probably more intense in the higher brackets. Nevertheless, with this data for 1985, the Census family income data was complemented in order to disaggregate the more-than-$35,000 categories.

59

A second step in this analysis found a relationship between the value of the housing stock of owner occupied units in Puerto Rico and family incomes. The relationships yielded a log normal distribution. 11

11

See Graph 11(a) and (b) for the aggregate Puerto Rico distributions. Graph 11(b) is the cumulative distribution. Similar curves are presented for the seven regions used in the study in APPENDIX 2.

60

61

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A third step in the analysis consisted of generating an estimate of family assets assuming that an owned house becomes a decreasing proportion of family total assets as family income increases. The implicit future income stream associated with the estimated family assets obtained from the analysis was discounted at a rate equivalent to U.S. long terms bonds and family assets were subjected to an appreciation equal to the estimated rate of inflation. The analysis that has been briefly outlined was then applied to generate average family income distributions for the seven regions in which the Island was divided for purposes of this research. The value distribution of the housing stock in Puerto Rico as derived from U.S Census of Population and Housing data was assumed to be related at the regional and municipal level with family income distributions. 12

See Graphs 12(a),(b),(c),(d) and Graph 11. Graph 12(a) is the empirical relationship between housing values and annual family incomes valued at 1980 dollars. Graph 12(b) is the marginal function. It illustrates how, as family income increases the percentage of homes in increasingly higher price ranges drops towards a floor minimum. This floor minimum differs among the seven regions of the island. It is highest in Region 7, while the extreme tail suddenly shoots upwards in Region 4. Similar graphs, with the distributions pertaining to all seven regions, are contained in APPENDIX 3.

12

63

64

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Housing values weights, reflecting the distribution of regional income, were obtained in order to allocate forecasted demand within price ranges. The weights distributions for the seven regions are illustrated in Graphs 13(a) and 13(b). Thus, the probability that a construction permit for private housing be issued in municipio i (Phih)) 13 was then disaggregated into its components. That is, the probabilities that a housing unit, of a certain price within pre-established brackets would be constructed in that particular municipio were obtained. Graph 14(a) presents the joint distribution of demand probabilities for housing construction in the non-metropolitan regions, i.e. Ponce, Mayaguez, and Arecibo. Graph 14(b) present the joint distributions for the greater metropolitan regions, i.e., West (Bayamn), East (Carolina), South (Caguas), and San Juan Metro. Four price categories are used: 50 to 60, 60 to 75, 75 to 100, and more than 100 thousand dollars. The valuation is made at constant 1980 dollars.

See Graphs 15,16,17 and 18. It is clear from these graphs that the probability of housing construction i s h i g h l y correlated w i t h the municipal shares of population, wealth, employment, and income.

13

66

67

68

69

70

71

This probability matrix was then applied to distribute the forecasted number of housing units to be demanded by families and supplied by the private sector during the forecasted period among the seven regions and all municipios in Puerto Rico. The distribution was further segmented into estimated market unit price va1ues. The first step in the forecast process was to estimate the coefficients of the sector model equations. These equations yielded the aggregate yearly forecasts for private housing units and investment. A matrix containing the estimated parameters for all equations and the pertinent statistical significance indicators is provided in Matrix 1. The historically observed values for each of the dependent variable of the model are plotted together with the calculated and forecasted values in Graphs 6, 19, 20, and 22.
14

The quantitative results pertaining to the analysis described i n Section 6.0 together w i t h other related materials are contained in APPENDIX 4 .

14

72

73

74

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7.0 Simulation Procedure A computer simulator capable of generating alternative solutions to the model was designed and implemented with this analytical instrument; numerous scenarios were studied. Different sets of alternative values for the interest rate and total employment level were used in order to generate alternative values for real average family assets valuation. A path for interest rates was assumed for the four years forecasting period. This path follows the shallow "ushape. 15 The output from this set of simulations was used, in turn, to generate alternative sets of solutions to the model which yields the number of private housing units to be constructed on a yearly basis in Puerto Rico. Table S-1 is a partial set of alternative solutions in terms of housing units to be demanded under different scenarios. The scenarios are defined in terms of two key variables: total employment (in thousands) and mortgage rates (FHLBBR) in percent. Employment levels vary across the columns while the mortgage rate varies across the rows.

15

See Graph 4.

76

77

This tabulation is especially useful as it provides a readily available instrument to monitor the probable effects of changes that economic conditions may be expected to exert on housing demand. In Graph 21, a family of curves yielding alternative solutions based on varying employment and interest rates, are plotted. The vertical axis measures the perceived valuation of family assets associated with each scenario. The most likely scenario was, then, used to generate regional levels of private housing demand at distributed unit price ranges. The regional forecasts were then disaggregated into demand figures for each municipio in Puerto Rico. 8.0 Demand Forecasts This section contains the core results of the study. A series of tables are used to provide easy access to forecasts by region and municipio. The most likely scenario is defined in terms of an average level of total employment to be sustained during the forecast period, and likewise, a particular behavior of mortgage interest rate. In this case, total employment was projected to attain a level of 800,000 by 1990. The mortgage interest rate, measured by the expected behavior of the Federal Home Loan Bank Board rate, was projected to average 11.0 during the four year period. The effective demand for private housing will attain an expected level of 10,765 units per year, priced under 70,000 dollars valued at 1985 prices. In addition, the underlying economic base will support a demand for 130 new units in the $70,000 to $85,000 range each year.

78

On the $85,000 to $105,000 range, an average of 91 new units is expected to be on demand each year. The most likely scenario projects a yearly demand of 43 units in the $105,000 top $140,000 range. Finally, a demand for 62 units is warranted in the $140,000 over price range. These forecasts have to be interpreted in light of the following factors present in today's market. Base forecast prices are valued at their 1985 levels. Inflation in the market will push units into higher brackets throughout the forecast period. Tables RF2(a) and (b) present forecasts valued at expected 1990 prices. A large number of highpriced units have already been constructed and are being marketed. Demand at the higher price brackets, above the levels forecasted on the basis of available data, cannot be subject to rigorous forecasting procedures. 8.1 Regional Forecasts 8.1.1 Most Likely Regional Scenario Tables RF-1 and RF-2 tabulate the regional forecasts generated by the most likely employment and interest rate behavior scenario. These tables present the distribution of private housing units for the seven regions and by price ranges. Table RF-1 (a) presents the average yearly forecasts while Table RF-1(b) displays the total four year numbers. Both tables classify the price distributions in terms of constant 1980 dollars. Graph 23 illustrates the price drifting behavior anticipated for the price classification assuming that inflation in the construction sector will remain constant at a 7 percent yearly compounded rate for the duration of the forecast period.

79

Tables RF-2(a) and RF-2(b) present the regional forecasts valued at 1985 and 1990 prices respective1y. The strongest demand for new private housing will occur in municipios within Region 4 (West Metropolitan), while the weakest demand will take place in municipios within Region 3 (Arecibo).

80

81

82

83

In the $70,000 and over range, effective demand will be strongest within Region 7 (San Juan Metropolitan) and Region 4 (West Metropolitan). Price brackets $85,000 to $105,000 and $105,000 to $140,000 will see close to 50 percent of their effective demand occurring within Region 7. On the other hand, for units on the $140,000 and over range, 50 percent of demand will take place in Region 4 (West Metropolitan). 8.1.2 Alternative Regional Scenario An optimistic scenario which assumes an average total employment level sustained during the forecast period together with a 6.5 Federal Home Loan Bank Board mortgage rate was solved by the system. The regional yearly average results are shown in tables RF-3(a) and (b). Tables RF-4(a) and (b) provide the same information adjusted for price drifting valued at 1985 and 1990 dollars respectively. The regional patterns associated with the variables critical in the determination of private housing demand are graphically represented in computer generated maps, which appear at the end of this section.

84

85

86

87

Map 10 presents the regional distribution of the owner-occupied housing stock of Puerto Rico based on U.S. Census of Population and Housing data for 1980 by valuation brackets based on asking prices. Map 11 shows the spatial distribution of median values among regions and municipios within regions. Maps 12, 13, 14, and 15 illustrate the regional family income distribution. Each map refers to a specific income category. Maps 16 and 17 provide valuable data on the Perceived Valuation of Family Assets which is used in this study as a measure of wealth. Map 17 depicts the geographic expected distribution of housing demand by value ranges above 50,000 dollars. The expected regional probabilities of location for a new unit are presented in graphic and tabular forms. The share of total housing demand that each region in Puerto Rico can expect based on its economic characteristics is presented in Map 18. Likewise, the average share that a municipio, within a particular region, can be expected to generate is represented by the height of cylinders.

88

89

90

91

92

93

94

95

96

97

98

The regional forecast of housing demand to be supplied by the private sector is illustrated in Maps 19 and 20. Map 19 presents the expected unit distribution results. Map 20, on the other hand, classifies the forecasted demand by price ranges at 1985 dollars. Price drifting phenomenon due to inflation is, thus, illustrated. 8.2 Municipal Forecasts Table MF-1 tabulates housing demand forecasted as obtained from the most likely scenario. The solutions obtained at the municipio level for the optimistic scenario appear in Table MF-2.

99

100

101

102

103

104

9.0 Conclusions The most important conclusion that can be derived from the study carried out in order to forecast housing demand in Puerto Rico, is that this sector of the economy is highly polarized. The polarization of the market has important implications for private sector planning and for public policy formulation. A three market segmentation can be identified. A post-shelter market, driven mainly by financial decisions, sets price structures and distorts resource allocations and coexists with a very large potential market. Nevertheless, this market is out of reach for those buyers not benefiting from some government subsidy. In the middle, there is a depressed segment bearing the pressures exerted by the high price structure established by the speculative forces, and the high construction and finance costs established by inflation and exogenous variables and policies. The behavior that, drives market decisions in the speculative housing market is essentially of a financial nature that goes beyond the need for housing. On the other hand, the wide ranging housing needs of large numbers of families in Puerto Rico are not within reach, as is evident from the forecast of total demand and its regional and price distributions. The most likely scenario for the four year forecast period yields an expected demand volume of nearly 44,400 units. The price distribution of this forecast is based on available data. Demand in the high price ranges is not forecasted at levels which would appear to be consistent with the current surge of units being optioned in the market. Income under-reporting and the

105

presence of a very large underground economic sector are the most likely explanation for what, at first sight, would appear to be an underestimation bias in the results. Prudence is recommended to both developers and the financial community with respect to high-priced projects that go beyond a reasonable margin above the forecasts obtained. The underlying economic framework of the Puerto Rican economy seems unable to sustain growth in the high-priced market at present rates.

106

APPENDIXES

107

APPENDIX 1 The tables contained in this Appendix provide the latest available information on private housing construction by region for all municipios in Puerto Rico as of the date of this study. The data refer to the average value of construction as declared by deve1opers.

108

109

110

111

112

113

114

115

116

APPENDIX 2 This appendix contains the regional cumulative distribution curves.

117

118

119

120

121

122

123

124

APPENDIX 3

125

126

127

128

129

130

131

132

133

134

135

136

137

138

139

140

141

142

143

APPENDIX 4 This appendix contains the quantitative results related to the analysis and forecasting procedures through which forecasts were allocated among regions and municipios.

144

145

TABLE A-2 INDEX OF VARIABLES INCLUDED IN SECTOR DATABANK

COLUMN # 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 26 27

MNEMONIC YEAR INVIVPU INVIVPRI INVIVTOT INV_PER_UNIT NUVTVPU" NUVIVPRI NUVIVTOT IPDCONS NETINCONS EHPCONS TOTEMP POPTOTAL FAMILIES NPPER_FAM PER CH_FAN FAMINC FAHINC54 WEALTH_FAM WEALTH_FAM_54 CH_WEALTH_FAM_54 FHLBBRATE PRIME PRIME_FY WEALTH CALC IMVIVPRI_CALC NUVIVPRI_CAL

EXPLICIT NAME Fiscal Year Private Investment in Housing (million $) Public Investment in Housing (million $) Total investment in Housing (million $) Cost per Unit Units built by the Public sector Units built by the Private sector Total Units built Implicit Deflator Construction (1954:100) Net Income - Construction Sector (million $) Employment in Construction (thousands) Total Employment (thousands) Total Population (thousands) Number of Families Number of Persons per Family Percent Change in Number of Families Average Family Income (current prices) Average Family Income (1954 prices) Perceived Family Wealth (current prices) Perceived Family Wealth (1954 prices) Change in Family Wealth (1954 prices) Mortgage Rate (FHLBB) Prime Rate Prime Rate (fiscal year) Calculated Family Wealth (1954 prices) Calculated Private Real Investment in Housing Calculated Number of Private Housing Units

146

TABLE A-3 EXPECTED UNIT VALUE DISTRIBUTION PRIVATE HOUSING DEMAND 1985-1990 (by municipio) (prices in thousands of constant 1980 dollars)
MUNICIPIO CODE # DISTRIBUTION OF PERMITS <$50 $50<$60 $60<$75 $75<$100 $100>

ADJUNTAS AGUADA AGUADILLA AGUAS BUENAS AIBONITO AASCO ARECIBO ARROYO BARCELONETA BARRANQUITAS BAYAMON CABO ROJO CAGUAS CAMUY CANOVANAS CAROLINA CATA 165O CAYEY CEIBA CIALES CIDRA COAMO COMERIO COROZAL CULEBRA DORADO FAJARDO FLORIDA GUANICA GUAYAMA GUAYANILLA GUAYNABO GURABO HATILLO HORHIGUEROS HUMACAO ISABELA JAYUYA JUANA DIAZ JUNCOS

1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 26 27 28 29 30 31 32 33 34 35 36 37 38 39 40

0.314 1.053 1.378 0.918 1.004 0,858 f .761 0.811 0.600 0,747 7.604 1.246 4.618 0.831 1.307 4.819 0.802 1.214 0.940 0.498 0.976 0.943 0.252 1.415 -0.872 0.941 1.159 0.379 0.640 1.027 0,533 4.153 1.046 1.083 0,739 1.527 1.154 0,217 1.085 0,844

0,308 1.033 1.352 0.905 0.990 0.842 1,740 0,798 0,592 0.718 7,309 1.222 4.552 0,821 1.279 4.715 0.771 1,197 0,919 0,492 0.963 0.928 0,242 1.360 -0.853 0.904 1.134 0.374 0.628 1.010 0,525 3.853 1,031 1.070 0,725 1,505 1.132 0,213 1.067 0.832

0.002 0.009 0.012 0.006 0.007 0.007 0.010 0.006 0.004 0.009 0.092 0.011 0.031 0.005 0.015 0.057 0.010 0.008 0,011 0.003 0.006 0.007 0.003 0.017 -0.010 0.011 0.014 0.002 0.006 0.007 0.004 0.112 0,007 0.006 0,006 0.010 0,010 0.002 0,008 0,006

0.002 0,006 0.008 0,004 0.004 0,005 0.006 0,004 0.002 0,005 0,050 0.007 0.020 0.003 0.008 0.031 0.005 0,005 0.006 0.002 0,004 0.005 0.002 0.009 -0.005 0.006 0.007 0.001 0.004 0.005 0.003 0.097 0.004 0.004 0.004 0.006 0,006 0.001 0,005 0.004

0,001 0.003 0.004 0.002 0.002 0.002 0.003 0.002 0.001 0,002 0.017 0.003 0.009 0.001 0.003 0.011 0.002 0,002 0.002 0.001 0.002 0.002 0.001 0.003 -0.002 0.002 0.003 0.001 0.002 0.002 0.001 0,053 0.002 0.002 0.002 0.003 0.003 0.001 0,002 0,002

0,001 0.002 0.003 0.001 0.001 0.002 0,002 0.001 0.001 0.013 0,137 0.003 0,006 0.001 0,002 0.006 0.014 0.002 0.001 0.001 0.001 0.002 0.004 0.025 -0.001 0.017 0.002 0.000 0.001 0.002 0.001 0.039 0.001 0.001 0.002 0.002 0.002 0.000 0.002 0.001

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CONT.
MUNICIPIO CODE # DISTRIBUTION OF PERMITS <$50 $50<$60 $60<$75 $75<$100 $100)>

LAJAS LARES LAS MARIAS LAS PIEDRAS LOIZA LUQUILLO MANATI MARICAO MAUHABO MAYA6UEZ MOCA MOROYIS NAGUABO NARANJITO OROCOYIS PATILLAS PEUELAS PONCE OUEBRADILLAS RINCON RIO GRANDE SABANA GRANDE SALINAS SAN GERHAH SAN JUAN SAN LORENZO SAN SEBASTIAN SANTA ISABEL TOA ALTA TOA BAJA TRUJILLO ALTO UTUADO VEGA ALTA VEGA BAJA VIEQUES VILLALBA YABUCOA YAUCO TOTAL

41 42 43 44 45 46 47 48 49 50 51 5? 53 54 55 56 57 58 59 60 61 62 63 64 65 66 67 68 69 70 71 72 73 74 75 76 77 78

0.698 0.712 0,046 0.920 0.588 0.846 1,167 -0.116 0.121 2.070 1.049 0.626 0.440 0.790 0,197 0.231 0,761 4.746 0.470 0.461 4.226 0.392 1.269 1.124 10.311 1.024 1.194 0,584 1.555 1,906 1.301 0.715 1.093 1.609 -0.300 0.783 0,826 0,990 99.989

0.684 0.703 0.045 0,907 0,575 0,828 1.153 -0,114 0.119 2.030 1.029 0,618 0.431 0.759 0.189 0.227 0.748 4.670 0.464 0,452 4.135 0,385 1,248 1,102 9,566 1.009 1,171 0.575 1.495 1.832 1,207 0.706 1.050 1.589 -0.293 0.770 0.814 0.975 97,052

0.006 0.004 0.000 0.006 0,007 0.010 0.007 -0.001 0.001 0.018 0.009 0.004 0.005 0,010 0,002 0,002 0,005 0,034 0.003 0.004 0,050 0.003 0.009 0.010 0.277 0,007 0.010 0,004 0.019 0.023 0.035 0.004 0.013 0,009 -0.004 0.006 0.005 0,007 1,173

0.004 0,003 0.000 0.004 0.004 0.005 0.004 -0.001 0.001 0.012 0.006 0.002 0,003 0.005 0,001 0.001 0,004 0.024 0.002 0.003 0.027 0.002 0.006 0,006 0.241 0.004 0.007 0.003 0,010 0,013 0.030 0.003 0.007 0.006 -0.002 0.004 0.004 0.005 0,818

0.002 0.001 0.000 0.002 0.001 0.002 0.002 0.000 0.000 0.006 0,003 0.001 0.001 0.002 0.000 0.001 0.002 0.011 0.001 0.001 0.009 0.001 0.003 0.003 0.132 0.002 0.003 0.001 0.003 0.004 0.017 0,001 0.002 0.003 -0,001 0.002 0,002 0.002 0.387

0.001 0.001 0.000 0.001 0.001 0.001 0.001 0,000 0.000 0.004 0.002 0.001 0.001 0.014 0.004 0.000 0.001 0.008 0.001 0.001 0.005 0.001 0.002 0.002 0.096 0.001 0.002 0.001 0.028 0.034 0.012 0,001 0.020 0,002 0.000 0,001 0.001 0.002 0,558

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TABLE A-9 AVERAGE FAMILY INCOME IN PUERTO RICO: FISCAL YEARS 1970 TO 1985

FISCAL YEAR 1970 1971 1972 1973 1974 1975 1976 1977 1978 1979 1980 1981 1982 1983 1984 1985

AVERAGE FAMILY INCOME CURRENT CONSTANT PRICES PRICES 1954=100 $5,674 $4,013 $6,148 $4,180 $7,533 $4,959 $8,393 $5,279 $9,374 $5,301 $10,358 $5,104 $11,387 $5,284 $11.977 $5,368 $12,522 $5,375 $13,541 $5,513 $14,762 $5,315 $15,746 $5,162 $16,367 $5,078 $16,339 $4,927 $16,843 $5,002 $17,634 $5,125

PERCENTAGE CHANGE CURRENT CONSTANT PRICES PRICES 6.67% 8. 35% 22.53% 11.42% 11 .69% 10.50% 9.93% 5.18% 4.55% 8. 14% 9.02% 6.67% 3.94% -0.17% 3.08% 4. 70% 2.22% 4.16% 18.64% 6.45% 0.42% -3.72% 3. 53% 1.59% 0.13% 2.57% -3.59% -2.88% -1.63% -2.97% 1.52% 2.46%

SOURCE: PUERTO RICO PLANNING BOARD, Informe Econmico AI Gobernador, 1985

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TABLE A-11 NUMBER, VALUE, AND AVERAGE VALUE OF INSURED HOME MORTGAGES ON NEW CONSTRUCTION

FISCAL
YEAR NUMBER 6, 603 6,215 7, 285

VALUE (thds. $) $61,590 $67,357 $83,466 $80,845 $127,648 $152,529 $168,824 $166,765 $160,960 $147,713 $154,565 $161,855 $151,080 $79,786 $32,045 $16,667 $11,172 $24,286 $8,262 $4,546 $56,950 $56,996 $31,297 NA NA

AVERAGE VALUE $9,328 $10,838 $11,457 $13,069 $14,200 $15,834 $16,467 $18,280 $18,351 $19,390 $20,001 $20,841 $21,701 $21,413 $20,944 $28,687 $29,170 $44,480 $33,314 $39,877 $28,079 $39,092 $24,130 NA NA

1961 1962 1963 1964 1965 1966 1967 1968 1969 1970 1971 1972 1973 1974 1975 1976 1977 1978 1979 1980 1981 1982 1983 1984 1985

6,186
8,989 9,633 10,252

9,123 8,771
7,618

7,728 7,766
6,962 3,726

1,530
581 383 546 248 1 14 1,519

1,458 1,297
NA NA

SOURCE: PUERTO RICO PLANNING BOARD

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