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After rising strongly for many years, China’s residential property was among the most expensive in the world.
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After many years of rapid growth in new development, there’s now massive excess capacity.
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It was a gigantic bubble and after Xi tightened developer leverage regulations in 2020, the bubble popped.
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Since then, home prices have likely fallen 20-25% nationally from 2021 peak though official data shows only a modest 5-10% decline.
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Because China’s housing stock was appraised in 2019 at > $50 trillion, a 20% price decline means that household wealth has declined by over US$10 trillion — or more than 50% of GDP.
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Prices are still falling and will likely continue until they get much cheaper or Beijing finally takes meaningful action.
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There are several major systemic headwinds facing the Chinese economy in the years ahead but the property bust and HOME PRICE DECLINE is the biggest reason consumer confidence has been shattered and why growth will continue to stagnate for years to come.
This huge negative wealth effect is a massive drag on Chinese consumption and growth
Chinese government statistics are not the same as developed market stats for various reasons and should never be taken at face value – as any EM investor will tell you. So it is with many developing economies but in China, at this epic turning point, it’s becoming more and more difficult. This is especially true for home price data. According to Beijing, home prices have fallen ~ 5% since 2021 in the secondary market and about the same for new homes.
But home prices are controlled to a great extent by local government officials as this piece in the WSJ explains:
Unlike in the U.S., where home prices are largely determined by market forces, strict government price controls have long been used in China to help prop up real-estate values. Official home-price indexes for major Chinese cities, which climbed for years, have held up remarkably well despite a deep slump in new-home sales.
A property bubble bursting without prices falling is an oxymoron. The definition of a property bust is, literally, prices falling sharply back towards planet Earth. If prices weren’t falling that would mean there really isn’t a crisis at all. Beijing would just need to bail out a few developers and everything will be fine.
That’s not what’s happened. What’s happened is that homes in China had become the most expensive relative to incomes in the world (see chart) while the supply of new homes massively exceeded potential demand.
It was in everyone’s interest to keep the machine growing – – party officials, developers, banks, and even homeowners who saw their apartments appreciate rapidly. Eventually China’s residential property market reached an aggregate value of ~ $50 trillion as per Goldman Sachs, more than 2x the value of US residential real estate! Since property is essentially the only meaningful asset on household balance sheets, at the peak, homeowners had reason to feel optimistic (rising prices) and wealthy.
Then Xi Jinping popped the bubble by tightening developer leverage limits in 2020 with no plan to address the fallout. Xi didn’t create the bubble but he popped it with no consideration for dealing with the quite predictable effects.
Prices have fallen and will continue to fall. In both tier 1 cities (where tens of thousands of expats lived who’ve now left) and especially in tier 3 and 4 cities where the excess supply is stratospheric. This is likely to continue until prices fall far enough to be obviously cheap or at least until Xi Jinping finally begins the extremely difficult task of recognizing losses, restructuring the industry, and restructuring government finances.
When you pop a real estate bubble, prices go down. If that were not the case in China, it would be the weirdest strangest most abnormal property crisis ever in history. It is not. Prices are going down, people are panicking, which leads to more selling which leads to more panic and more selling. The psychology of property bubbles is universal and China is not immune.
How do we know prices are falling? If we can’t rely on official data, what do we use? The answer is everything else, from bloggers to brokers, including social media. The good news is that today there’s more independent voices on China (and most things) given the explosion of podcasts, video bloggers, and newsletters. As a result, there’s actually quite a lot of information available but it requires a fair bit of sifting and assessing.
I’ve been travelling to China for business and as a tourist for 25 years and have followed events closely throughout that period. This perspective and context is critical when assessing “informal” sources. Often the answer becomes clear through an accumulation of small data points understood within the larger political/historical context. It’s not ideal to say the least but you don’t have a choice if you’re invested in China. A great example of a something that by itself calls into question the accuracy of official data is this YouTube video of a conference of Chinese property agent where they ask brokers from all over China one by one what’s the decline in home prices in the cities they live and work in. Every single one cites declines of 15-25% and this was posted three months ago. Who would you believe?
Is Beijing intentionally fudging the numbers or is it a more innocent explanation, that idiosyncrasies in China’s condo market explain it? My guess is some of both but it ultimately doesn’t matter.
More from the WSJ:
Large and smaller cities have begun eliminating price restrictions—in effect allowing developers to set their own prices. In places where there are still limits, some companies have offered de facto discounts by giving free home appliances, parking spaces or even gold to those who are purchasing apartments.
“If you only look from the perspective of reviving the property market, you should let developers decide the prices based on supply and demand, which could result in substantial price cuts,” said Dan Wang, chief economist at Hang Seng Bank China. She added that Chinese regulators would prefer a controlled or gradual decline in prices, but that goal might be hard to achieve in practice.
I agree!
The China story is complex, opaque, and multi-faceted and so can be challenging for those getting their arms around the situation today. But this One Big Important Thing is simple: what triggered the downturn since 2021 is that they’d built an insane amount of new homes, prices got crazy high, they popped the bubble without any plan to deal with the fallout, and now the whole thing’s going in reverse. And they’re still dithering.
This is not rocket science, it’s a property bust just like a dozen other property busts in other countries in the past. On the way up it had distinctive “Chinese characteristics”. On the way down, it’s pure human nature — a movie we’ve seen many times before.
And that explains much of the continued disappointment in consumption. If you are suddenly 20% poorer in wealth, you will spend less. This is why it really should no longer be a surprise that economic activity continues to disappoint. The Chinese people are poorer, a lot poorer. The economy will have ups and downs but it will all be consistent with a longer term picture of poor private sector activity.
This ginormous negative wealth effect – – in combination with several other major secular headwinds – – means China is destined for years if not decades of stagnation. To the extent that they hit a 5% GDP growth this year or next is meaningless – – it will be due almost entirely to more wasteful debt-funded government or SOE investment spending. In fact, if China lowered its target growth rate to 3%, that would be the most optimistic sign possible because it would signal they finally understand the giant ditch they’re in and might stop digging! But until that happens — or at least until Beijing launches a large scale restructuring of the property sector, recognizes and allocates losses, and restructures local government finances — and stop their insanely excessive investment spending — the ditch will just keep getting deeper, home prices will continue to fall, and consumption will continue to be weak.