China’s Real Estate Crisis: Beyond the Chinese Shores?

24 Sep, 2014    ·   4673

Tilak Jha argues about the Chinese real estate appetite as overblown

The Chinese Real Estate situation, like other aspects of its economy, has a growth and sustenance pattern that have bucked the trends seen in other economies. A major reason behind this - beyond the reality of the strength of Chinese market - is the different political, legal, and cultural context of China vis-à-vis other mature economies. 
The bubble burst that the US witnessed, was unlikely to happen with other countries. The US lessons have been strong enough for the Chinese policy makers to ignore. Nonetheless, China’s real estate bubble has gone beyond the Chinese shores and it is increasingly becoming complicated and interlinked. 
Domestically, for months now, the Chinese government has been taking steps to avoid property bubble formation and its subsequent burst. Nevertheless, structural deficiencies make it extremely difficult to sustain indefinitely. First, despite reform talks, China's financial markets remains poorly regulated and shady investments abound. Second, supply side elasticity is strongly influenced by the government, due to the typical land auction and presale system which tends to oversupply.
Thirdly, housing prices in China have grown dramatically over the past two decades and a course correction has inevitably followed, as recent reports of cooling off suggest. Yet, the bigger challenge remains complicated, as the Chinese policy makers try to sustain the pace of the real estate market, while still  coping up with the demand - over supply mismatch. 
At present, apart from localised cases of ghost cities, the rising income of average Chinese have kept the demand for real estate strong in general. In the first and second tier cities, where millions of Chinese enter every year to uplift their lifestyle beyond hukou constraints, demand for homes exist. Other sectors of the Chinese economy continue to grow strong with high wages and new jobs available. However, the days of unrestrained growth are almost over, even as the Chinese economy faces a downward trend with twin pressures of weak demand in the western markets for its manufactured goods and a slackening appetite of Chinese consumers at home. 
The Chinese government believes that urbanisation will ward off the possibility of a property sector crisis, at least for the current decade. However, the housing prices to income ratio have continued to worsen far beyond the World Bank standard of 1.8 to 5.5 in developed economies and 3 to 6 in developing countries. In Beijing, it was 27:1 in 2011. The housing prices to rent ratio shows parallel trend. Similarly, vacancy rates - an indicator to reflect the degree of real estate demand in China - have skyrocketed reaching as high as the national average of 25-30 per cent. Continued speculative investments pushed further by idle capital and hot money has only made matters worse. 
The fears about Chinese real estate appetite appear overblown. Apart from efforts to cool down Chinese property market, the government is pushing financial reforms. Despite moderate economic growth, sale and property prices have grown beyond the affordability of the common Chinese buyer. The Chinese government has thus taken several steps to stabilise the overall economy, stimulate consumption, limit unproductive overinvestment and pre-empt any hard landing of the Chinese economy. 
Due to the above steps, a relatively sustainable fall in average home prices can be expected in China. The difference between the Chinese and the US real estate market in terms of their linkages with the banking sector is other factor that is working in favour of China, for now. Banks in China are relatively still far less exposed to the real estate sector - accounting for less than 20 per cent of mortgage loans in 2009 - nearly a third of that in the US. An all round bust should be out of sight, if the government is able to sustain a consumption centric approach towards building the momentum of the economy. 
The problems ashore is no less serious. Concerns like clean environment, socio-economic influence and the desire of wealthy Chinese people to park huge amounts of money (both black and white) out of China, have driven millions of dollars along with thousands of Chinese to Australia and the US.  In 2013, China emerged as top foreign investor in Australia's real estate - pumping in USD 6 billion - nearly double the amount just a year ago. Chinese hunger for real estate as an investment option has pushed property prices across major cities in North America, Europe and Australia. The trend has picked up as Chinese property developers look to diversify the effect of cooling domestic property market. Indeed, the relatively cheaper property prices, especially in the post financial crisis American market , is another reason why the Chinese investors have rushed to New York and San Francisco. Given China's huge population, many expect the trend to continue for long.