For Westerners, watching China struggling to deflate its giant real estate bubble is like seeing the train rattle around the bend while you're tied to the tracks. Will nobody save us?
U.S. fortunes are, of course, hitched to those of the People's Republic, soon to surpass Japan as the world's second-biggest economy. If China's growth stalls, or even markedly slows, we'll feel the pain stateside. One example -- a plunge in mainland housing prices would hurt spending by Chinese consumers, damping demand for foreign goods, among other adverse effects. Construction also uses lots of steel, oil and other basic materials. So slowing growth could hurt worldwide demand for commodities.
Meanwhile, concerns are mounting that China's real estate bubble is getting ready to blow. Property prices in 70 of the country's larger cities, while still rising more than 12 percent in May, are leveling off. Said Harvard economist Kenneth Rogoff today at a conference for Asia investors:
You're starting to see that collapse in property and it's going to hit the banking system. They have a lot of tools and some very competent management, but it's not easy.As Beijing knows all too well. Beginning this spring, Chinese leaders implemented a number of measures to cool the real estate market, including tightening mortgage standards and raising interest rates. The government has even specified when it expects property prices to fall. In an unusually direct statement, a key land ministry official noted Sunday that he expects a "full correction" in the real estate market by the beginning of October. Chinese banking regulators also acknowledged last month that risks around home loans are growing and warned that any resulting problems could ripple into the nation's other real estate markets.
Bubbles aren't so easily pricked, however. As the continuing rise in Chinese property prices shows, for now the government's actions are having limited effect. Construction also continues to grow even as property sales slump. That's a bubble in action.
Once the dam bursts, though, the value of real estate could be in for a soaking:
China's leading cities could see prices plummet 20 percent to 30 percent by year's end, while lesser-known cities could see declines of 10 percent to 20 percent, Standard Chartered Bank Ltd. said in a research note Tuesday.Chinese leaders face a delicate operation. They must defuse the real estate bomb ticking within the heart of their economy without clipping the wires on sectors, like construction, that are integral to productivity.
Local politics could toughen the task. In China, provincial officials are under pressure to sustain GDP and meet other government-mandated economic targets. To meet those goals, you have to spend (which is why China arranged a $585 billion stimulus program in the immediate aftermath of the financial crisis). Trouble is, spending across China is strongly tied to -- yes -- real estate development.
It's also awfully late to be shifting into reverse. Although China is emphasizing consumer-driven growth, it still depends heavily on exports and construction. The country's banks are highly exposed to the real estate market, having recorded record loan growth in 2009. (For an uncanny reminder of the perils of overbuilding, see below for video footage taken in the Inner Mongolian city of Ordos. China ordered up the city, complete with office buildings, luxury villas and other amenities of modern life, in 2005. Now it sits empty.)
It's important not to overstate the risks. In most ways, China remains in enviable condition. The country's GDP growth, which fell to a still robust 6.1 percent in early 2009, grew at a rate of 11.9 percent in the first quarter of 2010. As of April, retail sales were up 18.5 percent from last year. And longer term, real estate will recover in China, as rural inhabitants continue to stream into cities.
But the feedback loop among global economies is, as we've discovered, a powerful one. Just as plentiful Chinese capital is necessary to fund our spiraling debt, China needs Western consumers to spend. That equation looks increasingly unbalanced, as fears of a double-dip recession rise in the U.S.
Investors in China, particularly property speculators, are clearly spooked by the government's efforts to cut down on the froth. As the chart above indicates, the Shanghai Composite Index has plunged this year, closing Monday at a 15-month low. Excluding Greece, that's the worst performance of any stock market in the world this year.
In fact, that will suit the PRC just fine. Officials there don't want to contend with an overheated market along with asset bubbles. Still, it does raise questions about how long the engine of global economic recovery can continue pulling the train.
Image from Flickr user http2007