In the last few decades, China’s real estate market has flourished, growing into one of the world’s most profitable and dynamic sectors.
However, recent events suggest that the nation’s property market is on a precipice, with the potential to plunge into a severe crisis. This article delves into the intricacies of the situation, exploring its roots, the current state, and potential ramifications.
A Glimpse into the Past
To comprehend the impending crisis in China’s property sector, it’s crucial to understand its historical context. In the initial years of the People’s Republic, China didn’t have a well-defined property market. Urban dwellers relied on state employers for housing, and all urban land was constitutionally “owned by the state”. There were no private developers, and the concept of buying and selling land was foreign.
However, this scenario underwent a radical transformation in the late 1980s. Taking cues from Hong Kong professionals, Chinese officials in Shenzhen and Shanghai began selling “land use rights” to investors as part of long-term leases. This move was a game-changer, turning municipal authorities into overnight millionaires and giving birth to China’s property market.
The Real Estate Boom
In 1998, China officially initiated its real estate market nationwide. Urban households were allowed to buy and own flats, igniting a spectacular property market boom.
This boom was fueled by the nation’s rapid urbanization, with millions of people flocking into new flats, transforming real estate into the most vital engine of China’s economic growth. By some estimates, the sector now accounts for over a quarter of all economic activity.
The property boom also led to the financialisation of China’s economy. The banking industry soared, giving rise to a plethora of financial products backed by property. Bonds issued by many local government financial vehicles were ultimately backed by underlying property values.
The Downside of the Boom
Despite the economic windfall, the property boom created significant challenges. One major issue was the excessive borrowing it facilitated. All players in the industry, including local governments, developers, and households, accumulated debt at a stunning rate. For many local governments, they were technically bankrupt. For households, the pressure of debt repayment is escalating as the economy slows down and moves into deflationary territory. For developers, survival is becoming a struggle due to their debts.
The property boom also led to a distortion in housing prices. The exuberance of the market could only be sustained by continuously rising housing prices. When demand dried up, prices began to fall, and the whole economic structure started to crumble.
The Current Scenario
Presently, China’s real estate sector is teetering on the brink of a crisis, ignited by a housing slowdown. What started three years ago as a crackdown on risky business behavior by home builders has spiraled into a threat to the broader economy. The confidence of consumers, businesses, and investors is being undermined, and China’s typically interventionist policymakers have done little to ease these anxieties.
Moreover, the recent statistics paint a grim picture. New-home prices have slipped just 2.4% from a high in August 2021, while those for existing homes have dropped 6%. These figures show existing-home prices falling at least 15% in prime neighborhoods of major metropolitan areas like Shanghai and Shenzhen.
The Role of the Government
The government’s role in the impending crisis is complex. On one hand, regulators allowed developers to gorge on debt to finance a growth-at-all-costs strategy for decades. On the other hand, they intervened suddenly and drastically in 2020 to prevent a housing bubble. They stopped the flow of cheap money to China’s biggest real estate companies, leaving many short on cash.
However, as the crisis worsened, Chinese policymakers have defied calls to step in with a significant rescue package. They have opted instead for modest gestures like relaxing mortgage requirements and cutting interest rates. This approach has raised concerns about whether policy makers themselves have an accurate understanding of the market as they devise measures to prop up demand.
The Impact on Households
The potential burst of the real estate bubble will have significant repercussions on Chinese households. Many urban households have benefited from the changes sweeping the landscape. Those who already owned urban flats reaped a financial windfall as the steep increase in property prices expanded household wealth. According to a survey last year, property accounted for more than 70% of household wealth in China.
However, the current slump in housing prices is affecting these savings, which are primarily tied up in property. With housing prices falling and the economy slowing down, debt repayment pressure for households will become heavier.
The Impact on the Economy
The property sector’s crisis poses a significant threat to China’s economy. The nation’s dependence on real estate, which was lucrative during the building boom, has become a liability after years of excessive borrowing and overbuilding. Chinese consumers are spending less because of the slump in housing prices, and jobs tied to housing — construction, landscaping, painting — are disappearing.
Moreover, local governments, which rely on land sales to developers to pay for municipal programs, are cutting back on services. Financial institutions known as trust companies are staring at losses from risky loans handed out to real estate firms, prompting protests from angry investors.
The Future: A Tug of War
The future of China’s property sector is uncertain, with persistent downward pressures and increasing easing hopes. The perception gap on home prices stems in part from the vast array of policy levers the authorities have at their disposal. While countries such as Australia, Singapore or the US tend to tighten loan-to-value limits or lift interest rates, China can go beyond this to ban anyone not born in a particular city from purchasing homes or limiting the number of properties a person is allowed to own.
However, the weaknesses in housing price statistics hardly make things better. This may now work against determining the right policy to stabilize the market. The Chinese government also intervenes on prices directly, creating a distortion in the market.
There’s no denying that China’s real estate sector is at a critical juncture. The potential burst of the real estate bubble could have far-reaching implications, affecting not just the property sector but the broader economy as well. While China might be able to avoid a property market crash, the sector can no longer be the engine that once powered its economy. As the nation grapples with this reality, it’s clear that the property sector’s golden age may be coming to an end.