Designing a method to achieve affordable mortgages for Nigerians
In Nigeria, the treasury bill rate has hovered around 20% for a long time. There is no incentive for anyone to lend anyone money for less than 20% p.a, so all mortgage rates have to be higher than this price. This creates a situation where mortgages are too expensive for anyone to afford.
Can we fix this? In this note, I’ll introduce a few financial instruments that can be used to reduce the mortgage rate somewhat - making it possible for more people to get mortgages.
Why is the t-bill rate 20%?
First of all, we need to understand why the interest rate is so high in the first place. If you cut through everything, the rate is so high because the currency is expected to devalue over this time period. But why does the currency devalue, when population is growing and the economies of most countries grow? It’s because the Government prints money faster than the productivity rises in the economy. And why does the Govt do this? Because it’s seen as “free money” - they are allowed to do this and use that money to pay off their debts. So they do. So who really pays for the debt? The debt is shared among all holders of the currency, who contribute towards paying the debt via their productivity.
When we understand the above flow, then it’s the very same instruments we can use to reduce the effective mortgage rate.
Reducing the mortgage rate
The primary instrument we are using is that of “productivity”. Productivity tends to be growing over time in developing societies. People are gaining education, the population is growing, trade is growing. If we could measure productivity directly, it would be a line going upwards.
Because productivity is rising - things will be more expensive in the future (in terms of “productivity paid”), regardless of the nominal, currency denoted value.
The first instrument we can then use is “time” - by simply waiting, we will gain value.
Instrument 1: Capturing value from time
Anytime a mortgage is given, it should never be for ONLY a single, residential property. The rise in value of this property is not liquid and cannot be used to repay the mortgage. Rather, a mortgage should always be given for two plots of land beside each other. That means that while one can be built into a home, the adjacent plot can be preserved and tends to appreciate in value over time, in a way that can help offset the value of the mortgage.
Example:
First Example: A plot of land bought at N1m. Repayment is N200k per year for 5 years at a 20% interest. At the end of 5 years, the total interest is N1m, so only interest has been paid off.
Second Example: Two plots of land are bought at N2m. Repayment is N400k per year for 5 years at 20% interest. After of 3 years, the second plot of land is sold for N2m.
| Scenario | Initial Land Value | Total Paid | Outstanding Debt | Remaining Land Value | Equity |
|---|---|---|---|---|---|
| First Example | N1,000,000 | N1,000,000 | N1,000,000 | N1,000,000 | N0 |
| Second Example | N2,000,000 | N1,200,000 | N0 | N1,000,000 | N1,000,000 |
Instrument 2: Treasury Bills
On the lender side, particularly if the lending comes from an external country, there is a huge devaluation risk. Even if the equation works out positively in local currency, there can be a large devaluation and it becomes an effective loss.
Part of the solution for that is that every mortgage loan should have the corresponding amount placed in treasury bills for the period of the loan. This significantly reduces the FX risk by guaranteeing a compounding return. It protects the downside, as the t-bill rate will mostly be set high enough to offset any devaluation loss. If there is no devaluation, then this investment alone can yield a positive return. In either case, there is still the land ownership component that takes some of the risk from the pure financial instrument.
Instrument 3: Certificate of Capital Importation
A country like Nigeria offers a certificate of capital importation that allows you to recover invested money at official governmental rates. This allows the recovery of capital in case the black market rate diverges from the official rate
Instrument 4: Focusing on estates on the edges of cities
Offering mortgages for every single location is extremely risky, because you do not know the demographic evolution of populations. You also do not know the business environment in each city and how it will develop (which affects ability of people to repay their mortgages).
A solution for this is to only to lend out for planned cities or residential estates that are close to major cities. These cities should show a growth trends (easily verifiable using mobile phone use growth). With the trend of rapid urbanisation, it means that the land and properties in such estates will remain in demand, allowing Instrument 1 to work properly.
It is also easier to validate mortgage claims, and to do inspections. It also allows for better oversight to determine if the land is sold (as estate company can check this).
If the estate is at the edge of the city, there is still a lot of potential for land prices to rise, compared to estates deep inside the city.
Instrument 5: Using the ability to build over time
In advanced economies, there are often fixed and short timelines for building property. In emerging economies, homes can be built over a period of multiple years. This can be leveraged to reduce the lending risks.
For example, instead of lending for the entire home all at once, the lending can be in chunks. For example, the first loan is to buy the land-pair. Only when this is paid off will loans for building be issued. Even during the building process, the loan can be issued for a single phase, for example, the foundation only. Only when this is paid will a loan be issued for completing the house.
Since there is already a culture of building over a longer period of time, people can take loans just for each phase and then pause when they are done with that section, till they are financially able to continue. It significantly reduces the capital risk, as one can observe progress for each phase.
Instrument 6: A marketplace for home+mortgage sales
In a country like Nigeria, the understanding of mortgages is limited, so homes with mortgages would struggle to sell. If the above also involved a marketplace that allows people easily exit their mortgage and sell the home and outstanding debt to another party, then there is greater liquidity, and people who run into financial difficulties can rapidly exit to more liquid people.
Instrument 7: Mixed rental + owned estates
Estates where mortgages are offered can also have a bunch of rental flats built. These flats represent an “exit” for home owners who cannot repay their mortgages - they can sell off their homes and then move into one of the rented flats. This improves liquidity of the mortgage market, as people would hang on if they knew they needed to move to a far away place. If they can relocate to a flat in the same estate, they are more likely to sell the home.
Summary
The set of instruments do not take away the risk in providing mortgages to emerging economies, they just attempt to reduce them in various ways. This method also does not cater for everyone, as buying and building in estates is mostly a middle to upper class, urban dweller endeavour. However, this is a better market to kick off something like this with, compared to going for the BoP initially. If it becomes commercially viable, then it can expanded across the rest of society.