Looking out of the window of a lofty bank building in Shanghai’s central business district, it is difficult to imagine that only 20 years ago this side of the city was agricultural land. China’s economic boom has seen places such as Shanghai develop at lightning speed. Set to be a global financial centre by 2020, Shanghai continues to grow.
For every bustling hub, though, there are cities full of gleaming houses, malls and theatres that have been recently built but remain steadfastly empty. Ten years of cheap credit and high economic growth led to a boom in construction, with real estate developers building luxury houses and speculating for high returns.
These properties, however, are out of reach for much of China’s growing urban population.
Chinese government policy is to cool the overheated property market and create more affordable housing. Credit tightening that began in April 2010 has continued. In September and October there was a transition in the property market as inflated prices finally began to fall. Last month, the National Bureau of Statistics of China announced that the sales prices of newly constructed residential buildings declined in 34 out of 70 cities surveyed. The trend will continue into 2012.
Investors watch in horror as the value of their physical assets plummets. Protests have spanned the country, from Beijing to Wenzhou.
Even China’s greatest example of achievement and economic growth is not immune to what is happening in its property market today. Recently in Shanghai, investors attacked a property showroom, after the property developer Greenland Group was forced to bring down its prices to attract more customers.
Shanghai and the ghost towns in some of China’s more remote parts stand as metaphors for the two extremes of current investor attitudes to China – some see unstoppable growth and continued development, while others see the obvious evidence of a classic credit-fuelled property bubble.
And lurking in the shadows are several related problems: underfunded property developers threatening default and a budding underground banking system. How worried should investors be about a dreaded hard landing in China and how will its government solve the ills created as a result of tighter credit after 2008?
The decline in property prices has provoked debate about whether or not China is in for a hard landing, but this oversimplifies the situation. China’s vast size makes generalizations a mistake.
The disparity between personal wealth and house prices is greater in some areas than in others. In Beijing, Shanghai, Hangzhou, Shenzhen and Guangzhou, for instance, the affordability ratio of price to income has stretched to 113.5%. These are the cities where prices have been dropping. They are also the cities where protesters have hit back at property developers.
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"In 2008, the whole world was on the ropes so the government ordered banks to lend money. In this respect, you could argue that all companies were bailed out"
Viktor Hjort, Morgan Stanley |
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Meanwhile, incomes have risen faster than property prices. Analysts at the University of California Davis suggest that disposable incomes might even be higher than suggested by official data. In an academic study by Xiaolu Wang and Wing Thye Woo, per capita urban disposable incomes were as much as 90% higher than official data in 2008. Hidden household disposable income was estimated at Rmb9.3 trillion ($1.5 trillion). Across the economy as a whole, "price trends look consistent with income trends," says Viktor Hjort, head of Asia fixed-income research and head of global corporate credit strategy at Morgan Stanley.
The fact remains that cities such as Beijing and Shanghai are filled with unaffordable luxury apartments and most likely property prices will continue to slide in an effort to make sales. However, as Charles Chen, associate director of equities research at UBS, states: "We haven’t seen the large-scale price drop of property as yet."
How will this pan out? Vincent Chan, head of China research at Credit Suisse, says: "The most likely outcome is that property prices will continue to drop, but no one really knows how that will play out in the wider economy, as China has not had any prolonged property market correction in the past decade."
The equivocal conclusion is that, as Hjort says, "there is no broad-based property bubble in China but we can’t rule out that there aren’t bubbles in certain areas".
The national trend has been for prices to fall, but some analysts see a full-scale bust as inevitable. The credit boom in China between 2009 and 2010 has parallels with what has happened in other countries, they argue. Inevitably, there will be financial stress. The pattern of increased lending in China during the past couple of years has led some to compare it with Japan in the 1980s.
James Chanos, hedge fund manager, and founder and president of investment company Kynikos Associates, makes this comparison to argue that China is due a hard landing. However, the property market in Japan at that time was saturated as well as overinflated. In China, demand still exists. As Arthur Kroeber, non-resident fellow of foreign policy at the Brookings-Tsinghua Centre in Beijing, explains, although there is a demand for housing, "the people need the right property at the right price".
In fact, there is a great housing shortage in China: there are only two houses to every three urban households. Analysts at Brookings Institution estimate that the country needs around 10 million affordable houses every year for the next 20 years.
Price cuts mean more affordable housing, but a large-scale fall in property prices might hurt the central government. Beijing is the greatest beneficiary of the real-estate market. Profits come from two main sources: land sales and taxes, including business tax and corporate income tax. As a result, the central government directly takes around as much as 60% of total revenues.
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"If a big property developer in China was to default, this could lead to political instability. The Chinese government could not allow this to happen. Social instability is one of its greatest fears"
Oscar Choi, Citi |
