I’ve been writing a lot about the Chinese real estate market, because I think it is interesting, and because I think the situation has some parallels to the way the housing bubble in the United States was created. If you are totally unfamiliar with the situation, I recommend reading this article by Mike Shedlock at Global Economic Trend Analysis, and then this article by Yongheng Den, Joseph Gyourko, and Jing Wu. They do a good job of explaining what is going on in China and provide insight into the Chinese housing market.
Real estate prices in China have doubled over the last decade, with the bulk of the growth coming in the last few years. As China becomes increasin
gly industrialized, millions of Chinese peasants have moved from the country into the cities in hopes of attaining prosperity, fueling demand for housing. Incredibly, land values in Beijing have increased 750 percent since 2007.
This article from the Wall Street Journal quotes Chinese Minister of Land and Resources Xu Shaoshi as saying: “home transaction volumes have declined and prices have stagnated. In about a quarter’s time, the property market will probably reach a full correction and prices will fall, but it’s hard to predict the extent of the price [sic] falls”.
In line with this sentiment, Chinese central banking authorities recently ordered Chinese banks to undergo stress tests to determine the effects of a 50 to 60 percent drop in housing prices. This is supposedly a worst-case scenario, but the very idea that it is being considered should be disconcerting.
If you want further evidence that the Chinese real estate market is unsustainable, take a look at the chart above from the Casey Report that shows residential housing value relative to a country’s GDP. The only way that prices at this level seem sustainable is through continued rapid expansion of the Chinese economy. However, numbers that emerged today showed that growth in China slowed in July for the fifth consecutive month.
The slowdown could be related to efforts the Chinese government is taking to cool the super-heated housing market. This is a delicate operation however, and China needs to be careful not to pull back on the economic reigns too hard. There has been some speculation that China may need to loosen monetary policy or possibly even further depeg the Renminbi and allow it to float freely as dictated by the market.
So what will happen if or when the Chinese real estate bubble pops? It obviously depends on the severity of the slowdown. If the Chinese government is able to deflate the bubble in such a manner that the economy has a “soft” landing, the ramifications may not be too dire. If, however, the bubble pops and there is a “hard” landing, things could be bad for everyone. People in China who purchased houses at elevated prices will take a bath, which could lead to widespread unrest in China.
Also bear in mind that global economies are now inextricably linked. The United States is currently very dependent upon China to fund our debt (China is the number one foreign holder of U.S. treasuries), while China is dependent upon the U.S. to purchase Chinese exports. Any major disruption to the Chinese economy will echo across the world. I feel confident we will hear more and more about this in the coming months.
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Dan
August 11, 2010 @ 6:36 pm
What I don’t understand is how there can be a massive property bubble about to burst (which seems inventible) but people are claiming it’s being headed off by a slowing Chinese economy, yet property prices are still going up. Then others are claiming China is not growing fast enough, so monetary policies should be loosened, but are divided on whether the economy is going to have a soft or a hard landing if the economy does drop (which also seems inventible). So let me ask this, what in the H#ll is actually going on here?
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Michael Kraus Reply:
August 12th, 2010 at 9:14 am
Certainly nobody knows for sure what is going to happen in China, but some price correction seems almost certain. The price to purchase (or rent) a home in China compared to average income is through the roof, and the lending infrastructure they have set up seems almost certain to collapse at some point.
I feel as though a lot of the people who are saying the Chinese housing market will not fall apart often have a vested interest in seeing the bubble continue as long as possible. It will be interesting to see what happens.
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