China's housing market: when will it pop, and how loud of an explosion will it make when it goes boom? That seems to be the question on many investors' minds. China is the No. 2 economy after the U.S., so avoiding a crisis in China is nearly as important as avoiding one in Europe.
There is no question that China’s high property prices are a serious concern for policymakers and investors, says Barclays Capital analysts in a 29 page report published on Tuesday. The housing price index has risen by at least 70% since 2000. Year over year, housing prices are up by as much as 10% in some cities, and by at least 3% in the major tier one cities, according to the National Bureau of Statistics.
Taken over the long haul, China housing price increases is similar to the property bubbles which developed in Japan in 1982-1991 and in the U.S. in 1996-2006, according to Barclays. In both the U.S. and Japan, however, those periods of bubble building were immediately followed by painful adjustments, the subprime crisis in the U.S. and the “lost decade” in Japan. These raise important questions about the next step for China’s property prices, leading some China bears to call for imminent collapse of the Chinese housing market.
However, Barclays says that China policy makers have taken action sooner rather than later. The property bubbles are indeed different. And while the U.S. lowered interest rates at a time while housing was skyrocketing, pretending the bubble didn't exist, China raised rates and made borrowing for housing and building housing, a more costly endeavor. That, of course, has its own consequences, albeit different than the popping of the U.S. housing bubble and the subsequent crash of the mortgage backed derivatives market that led to the credit crisis of 2008.
China’s first encounter with a property bubble occurred between 1988-1992 in Hainan Island, an upscale resort island in south China, the kind of place that houses foreign finance minster conferences a few times a year. In 1988, real estate developers quickly emerged. Housing prices went from just 300 Chinese yuan per square meter in 1989 to 7,500 in 1992. One square meter is equal to 10 square feet, so a 1,000 square foot apartment went from being priced at just 30,000 yuan to 750,000 yuan. All things being equal, if one yuan equaled one dollar, that would be like a one bedroom trailer home parked in Conch Key, Florida now being worth a 1,500 square foot piece of property in South Beach.
When interest rates began rising in 1993, home prices dropped six-fold to 1,000 yuan per square meter and stayed that way until the early 2000s.
Then, as recent as 2002, the Hainan government was still cleaning up the messes created with the bursting of that bubble. Development of China’s commodity and private housing market started in 1998. While the sector has a short history of a little over 10 years, it has been growing very rapidly, contributing to expansion of real economic activities. Currently, real estate investment and construction is about a quarter of total fixed investment, at 12% of GDP, Barclays says. Its overall impact on GDP growth is significantly greater given the upstream links with steel, and construction material and downstream links with furniture, electronics and the service industries. Exposure of economic agents, including the banks, households, corporate and local governments, to real estate markets has also increased significantly.
But none of that means China is bound to repeat the credit crisis in the U.S. While there are similarities, there are plenty of stark differences.
See: Why China's Property Bubble Is Different--Forbes
Like in the U.S. and Japan, there was an extraordinary credit boom in China in recent years, as a policy response to the global financial crisis led to over $700 billion in stimulus spending. Much of it went to infrastructure, including building out housing in anticipation of further urbanization.
Easy money boosted investment demand for housing mainly because China's middle class and wealthy have few other places in the country to put their money. Bank rates are barely above inflation. The stock market is a casino. Property prices rose rapidly from early 2009 because of real estate investing and speculation on the same theme: that if you build it, eventually, people will come.
Until recently, the general belief remains that house prices will continue to increase, despite the significant policy tightening in both the property sector and the macro-economy that began from the second half of 2010, Barclays analysts wrote. Moreover, the Chinese economy has constantly experienced over-heating, with property investment being a main driver in the past decade. The total investment/GDP ratio reached an alarming 48.5% last year. If China’s property bubbles are already quite serious by international standards, at least in some large metropolitan cities, why were they able to continue to grow? Had no policy restrictions on house purchases been introduced from early 2011 in a large number of cities, Chinese property prices would probably have been rising even today. Barclays sees four key factors supporting sustained growth of property prices in China:
- Strong income growth
- Urbanization, home upgrading and favorable demographic change
- Limited investment alternatives
- Households’ strong balance sheets
From Barclays:
The Chinese government has been actively monitoring and, sometimes, intervening in the housing market, learning from its own experiences and those of other countries. While it is arguable whether this is healthy for the medium term, this intervention has been shown to have reduced the risks of a hard lending in the short term. The IMF-HKMA (2010) research found that over the past decade, when misalignments in house prices have occurred in China, they have been corrected relatively quickly. This is in contrast to the situation in, for example, the U.S., where misalignments tend to persist for much longer, ending in a large correction. From April 2011, more than 40 cities introduced administrative restrictions on housing purchases. Taking Beijing as an example, the policy dictates that each household with
household registration in Beijing can only buy one new apartment. Migrants living in Beijing are not allowed to buy an apartment unless they can provide documents to prove payment of taxes and social security contributions for the previous five consecutive years. Despite pressures from property developers and local governments to revoke the restrictions as property prices started to decline across the country, the central government made it clear
that restrictions should continue and might be extended to other second- and third-tier cities. In November 2011, Zhuhai city of Guangdong province joined the other cities in restricting housing purchases (and prices). This took the total number of cities implementing restriction policies to 47."
China's situation today is very different from conditions in the Asian countries during the Asian Tigers crisis in the late 90s. While China’s newest property bubble is more comparable to those in the Bangkok than in Miami, there is no sign of a stock market bubble, nor a credit crisis or currency crisis. The Chinese economy is indeed slowing from 10% in 2010 to 9% in 2012, but it is a controlled cooling, and much of that is due to a slow down in the core economies. There is no foreclosure crisis on the horizon, or resulting unemployment crisis to speak of. The China housing bubble, while big, cannot be compared to that of the U.S. and therefore investors should not expect an economic hard landing in China.
"Our best guess, however, is that the government wanted to see declines averaging 10-20%," the report states. Prices are likely to correct in the coastal cities where wealth is concentrated and where real estate values have nearly doubled in the last three years.
"But it is also important to remember that the government’s purpose is not to crash the housing market, since that would cause devastating consequences for the economy at large. After all, the property sector has already become a key driver of economic growth in China. Therefore, we do not expect the government to sit idle and watch the free fall of property prices." -- Barclays Capital.
See: China Beyond The Miracle--Barclays Capital
China Hard Landing Fears Easing--Financial Post
Chinese Housing Bubble: A Troubling Update From Beijing--PBS Newshour
