China's Bubble

China Property Bubble May Lead to U.S.-Style Real Estate Slump
By Dexter Roberts
(Excerpts from Bloomberg)
Dec. 31 (Bloomberg) -- Li Nan has real estate fever. A 27-year-old steel trader at China Minmetals, a state-owned commodities company, Li lives with his parents in a cramped 700- square-foot apartment in west Beijing.

Li originally planned to buy his own place when he got married, but after watching Beijing real estate prices soar, he has been spending all his free time searching for an apartment. If he finds the right place -- preferably a two-bedroom in the historic Dongcheng quarter, near the city center -- he hopes to buy immediately. Act now, he figures, or live with Mom and Dad forever. In the last 12 months such apartments have doubled or tripled in price, to about $400 per square foot.

“This year they’ll be even higher,” says Li in the Jan. 11 issue of Bloomberg BusinessWeek.

Millions of Chinese are pursuing property with a zeal once typical of house-happy Americans. Some Chinese are plunking down wads of cash for homes. Others are taking out mortgages at record levels. Developers are snapping up land for luxury high- rises and villas, and the banks are eagerly funding them. Some local officials are even building towns from scratch in the desert, certain that demand won’t flag. And if families can swing it, they buy two apartments: one to live in, one to flip when prices jump further.

And jump they have. In Shanghai, prices for high-end real estate were up 54 percent through September, to $500 per square foot. In November alone, housing prices in 70 major cities rose 5.7 percent, while housing starts nationwide rose a staggering 194 percent. The real estate rush is fueling fears of a bubble that could burst later in 2010, devastating homeowners, banks, developers, stock markets, and local governments.

High-End Bubble

Once the bubble pops, our economic growth will stop,” warns Yi Xianrong, a researcher at the Chinese Academy of Social Sciences’ Finance Research Center. On Dec. 27, China Premier Wen Jiabao told news agency Xinhua that “property prices have risen too quickly.” He pledged a crackdown on speculators.

Although parallels with other bubble markets, the China bubble is not quite so easy to understand. In some places, demand for upper middle class housing is so hot it can’t be satisfied. In others, speculators keep driving up prices for land, luxury apartments, and villas even though local rents are actually dropping because tenants are scarce. What’s clear is that the bubble is inflating at the rich end, while little low- cost housing gets built for middle and low-income Chinese.

In Beijing’s Chaoyang district, which represents a third of all residential property deals in the capital, homes now sell for an average of almost $300 per square foot. That means a typical 1,000-square-foot apartment costs about 80 times the average annual income of the city’s residents.

How did this bubble get going? Low interest rates, official encouragement of bank lending, and then Beijing’s half-trillion- dollar stimulus plan all made funds readily available. City and provincial governments have been gladly cooperating with developers: Economists estimate that half of all local government revenue comes from selling state-owned land.

Built on Sand

“When you sit down with a table of businessmen, the story is usually how they got lucky from a piece of land,” says Andy Xie, an independent economist who once worked in Hong Kong as Morgan Stanley’s top Asia analyst. “No one talks about their factories making money these days.”

Newly wealthy towns are playing the game with a vengeance. Ordos is a city of 1.3 million in China’s Inner Mongolia region. It has gotten rich from the discovery of a big coal seam nearby.

An emerging generation of tycoons, developers, and local officials will go to any length to invent a modern Ordos. So 16 miles from the old town, a new civic center is emerging from the desert that could easily pass for the capital of a midsize country. An enormous complex houses City Hall and the local Communist Party headquarters, each 11 stories tall with sweeping circular driveways.

Nearby loom a fortress-like opera house and a slate-gray, modernist public library. Thousands of villas and apartment towers stretch into the distance, all built by local developers in the hope that Ordos’s recently prosperous will buy the places to be near the new center of power.

Serial Drama

Workers get bused daily to the new city hall, but the housing is still largely unoccupied.

Why would anyone go there,” asks Zhao Hailin, a street artist in the old town. “It’s a city of empty buildings.” Ordos officials declined to comment for this story.

The central government now faces two dangers. One is the anger of ordinary Chinese. In a recent survey by the People’s Bank of China, two-thirds of respondents said real estate prices were too high.

A serial drama with the ironic name The Romance of Housing, featuring the travails of families unable to afford apartments, was one of the most popular shows on Beijing Television until broadcasting authorities pulled it off the airwaves in November. The official reason was that the show was too racy -- one woman got an apartment by becoming the mistress of a corrupt local official --, but online chat rooms speculated that the show was cut because it was upsetting to people unable to afford apartments.
The worst scenario is that the central authorities let the party go on too long, then suddenly ramp up interest rates to stop the inflationary spiral. Without cheap credit, developers won’t be able to refinance their loans, consumers will no longer take out mortgages, local banks’ property portfolios will sour, and industrial companies that relied on real estate for a chunk of profits will suffer.

The second danger is that Beijing will try, and fail, to let the air out of the bubble. Pulling off a soft landing means slowly calming the markets, stabilizing prices, and building more affordable housing

Getting Nervous

It’s not encouraging that the Chinese have been ham-handed about stopping previous real estate frenzies. In the 1990s the government brutally ended a bubble in Shanghai and Beijing by cutting off credit to developers and hiking rates sharply. The measures worked, but property prices plunged and economic growth slowed.

Analysts are divided over the probabilities of such a crash, but even real estate executives are getting nervous. Wang Shi, chairman of top developer China Vanke Co., has warned repeatedly in recent weeks about the risk of a bubble. In his most recent comments he expressed fear that the bubble might spread far beyond Beijing, Shanghai, and Shenzhen.
All good bubbles must come to an end eventually.
The Chinese will soon be learning a lesson in economic gravity - what goes up fast, must also go down quickly.
When the carry trade reverses, the US dollar - Yuan link will drag the Yuan up, hurting exports and initiating the collapse of the Chinese housing bubble and stock markets.
How do we know housing is a bubble in China?
When you see Beijing apartments prices at 80 times annual income instead of 3 times income, you know the bubble is monumental.
Like most bubbles, it started with government interference in the economy such as:
  • Artificially low interest rates
  • 1/2 Trillion dollar stimulus
  • Centrally planned forced bank lending
  • Malinvestments like the planned (& empty) city of Ordos
As Andy Xie explains " No one talks about their factories making money these days."
In other words, it is simply equity extraction feeding the beast, not profits from cash flow!

The basic error of all this government planning is shown by the following world view:

  • We can't trust a free market.
  • But we can trust government officials to make the best decisions to "guide" the economy and maintain social stability.
Chinese banks now hold huge amounts of overpriced real estate assets on their opaque balance sheets.

Does anyone else see a crash coming soon to this Emerging Market?


  1. Pw, do you see hyperinflation coming into China's economy? The money supply has expanded massively in China?

  2. These are good questions anonymous. At the moment, I do not see hyperinflation brewing in China. What I see developing are deflationary forces that will become apparent once the property bubble and stock bubble collapse. Even though China is a command economy, banks that write bad loans will eventually need to write off the bad debts in large volumes. This is deflationary despite an increase in the money supply.

  3. One man losses is another man's gains...china bubble pops, US real estate bubble commences to inflate...

  4. A typical apartment costs 80 times what the average resident earns in a year. Maybe the income of the residents is too low?

    If China allows it's currency to float (the value of the Yuan will rise), real estate prices may drop in Yuan, but the value will stay the same in other currencies and there won't be a mass selloff. Also, if factory wages stay the same and the Yuan rises, the residents will be able to more easily buy imports and real estate.

    Allowing the chinse currency to rise may take some air out of the bubble without popping it.


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