China's real estate syndrome

By Daniel Wagner
0 CommentsPrint E-mail, December 24, 2010
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A concrete floor, or quicksand?

So is the duck that is the Chinese economy built on sustainable fundamentals or a pile of quicksand? There is much conventional evidence that the foundation of China's fantastic growth is unsustainable, but that has been the case for years, and it continues to grow and grow. For example, bank lending nearly doubled between 2009 and 2008, the sale of residences rose by 44 percent in 2009, and two thirds of the country's gross domestic product consist of fixed-asset investment, which is clearly unsustainable. But these statistics mask some hidden strengths, such as that most homes are paid for in cash, urban disposable income has risen an average of 7 percent per year since 2000, and real output per worker rises between 10-12 percent per year. It could therefore be argued that there are checks and balances in place that enable China's economy to maintain equilibrium.

Minxin Pei, a senior associate at the Carnegie Endowment for International Peace, notes that China's banking system, which is dominated by half a dozen enormous state-owned banks, has almost unlimited access to low-cost credit, enabling it to engage in unbridled real estate speculation, and giving the banks an incentive to keep the seemingly endless cycle of high growth going. Earlier this year it was reported that there are approximately 65 million empty apartments that Chinese citizens have purchased not to occupy, but to flip at some time in the future. We know how that kind of behavior ended up in the U.S. and elsewhere. But local governments depend on the tax revenue generated from such purchases, so they, too, have a vested interest in keeping the bubble growing.

Some western economists predict that the housing bubble will need to be punctured before inflation rises to such an extent that it risks causing social disharmony – something the Chinese government is rather anxious to avoid. Although inflation was officially 4.4 percent in October and 5.0 percent last month, food and other prices are rising at a much faster level, prompting many to question whether inflation is in fact as low as the government claims it is. A variety of economists and think tanks are pointing to a hard landing for China's economy next year, but it has been in this situation before and has repeatedly confounded the critics with either a soft landing, or no landing at all.

A thought provoking article in earlier this year claims there is no bubble, and that the amount of leverage typically used to purchase real estate around the world – which is the reason so many markets have gotten into trouble – is simply not a major factor in China. Given that such a high proportion of homes are paid for in cash in China, most home buyers can actually afford to buy their homes. It adds that the government has imposed restrictions on the size and number of certain types of homes to erode some of the demand, and that as a result of the housing and office space glut, rental prices have dropped, taking some steam out of the equation. So the Chinese government has a handle on the real estate market as only it can.

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