Real Estate Guides

Trouble Inflating in the East: The Chinese Real Estate Bubble

Market Report provided by Nest Seekers

No one can forget the 2008 Financial Crisis—a recession that shook the global economy as a result of a high default rate in subprime mortgage backed securities. Also known as the worst financial crisis since the Great Depression, this was a time of high unemployment, GDP losses, dried up business investments and major cutbacks in spending. Almost a decade has passed since then, and while the U.S. is still in the process of economic recovery, analysts are anticipating a potential repeat of history stemming from another powerful player—China.

The Expanding Bubble

For many years, China has been enjoying prosperity through its high GDP and exponential growth. Analysts, however, are raising concern over a developing real estate bubble that can hamper growth in Asia as well as the rest of the global economy.

The “bubble”—a term for inflated asset prices—is caused by the market’s insatiable demand for safe and profitable property combined with loose financial regulations mandated by the Chinese government. What makes this situation even more complicated are existing policies, such as construction limitations. Because the government wants to contain growth in the big cities, scarcity exists in the market as both homebuyers and builders compete to pay high premiums to purchase these properties. Despite an imbalance of demand and supply, local governments were not initially keen on resolving this since land sales help generate their revenues.

Many experts and analysts have voiced out their concerns and predictions with regards to the Chinese real estate bubble and its possible consequences to the economy. Chinese real estate mogul and the country’s richest man, Wang Jianglin, calls it “the biggest bubble in history.” Chief editor of Caixin Media, Hu Shuli, also warned that China’s current housing prices are nearing the prices of U.S. homes before the 2008 Financial Crisis occurred.

Effects and Possible Consequences

An explosion of the Chinese real estate bubble will not be limited within the economic borders of China. The Chinese economy—which includes investments in real estate— is a major driver in the global economy, and there are predictions that its collapse can lead to instability. In the case of real estate, a burst in the bubble will reduce the spending power of the Chinese to buy properties. With real estate’s biggest consumers unable to make purchases, this can lead to massive loan defaults, major price reductions and lowered asset values. For example, since the Chinese are major investors in New York’s local real estate, a pop in the bubble can decrease their activities and can stall their current developments in the city.

There are speculations that the Chinese real estate bubble will not create a financial crisis on the levels of the 2008 one since Chinese real estate borrowers can rely on collateral to pay their creditors. A bubble in the economy, however, still indicates a lack of other areas for investment.

The effects of the expanding bubble are already seen in China’s economy as housing prices in China’s major cities have gone up to 30% since last year. The percentage of new loans dedicated to housing doubled to a record-high 40%. Also, underground lending activity has been on the rise. Tightening financial regulations place further pressure on Chinese families that continue to rush for properties which are still available on the market. The race for properties has reached a point where couples would even divorce so that each person can buy independently while avoiding taxes. In places like Shanghai, people would need to deposit $30,000 in cash to participate in a lottery for a new apartment. 

The Government’s Preventive Measures

Experts have called on the government to take action. Ma Jun, the chief economist of the People’s Bank of China’s research bureau, said the government should prevent further expansion of the bubble by curbing excessive finances in the real estate sector. The bank’s newspaper suggested that local governments should control its markets to prevent further surging of prices. Hu Shuli, editor and founder of Caixin Media added to the conversation, concluding that the Chinese government needs to cut local government reliance on land sales for revenue.

The government responded with several policies that aim to tighten property purchases and regulate spending. Strict rules have been enforced so that municipalities are pressured to curb excessive finances. Down payment percentages have been raised. The authorities are also cracking down on underground lending and even investment transfers for abroad where properties can produce better yields. Chinese citizens, however, are still actively searching for more stable investments in U.S. property markets despite tight capital controls.

These measures, however, merely resulted to investors placing their money into cities where real estate experiences a slower appreciation rate. As George Mason University economist, Tyler Cowen, placed it, with China’s current financial system limiting investment opportunities and hindering a transition to a consumer-driven economy, the Asian giant will eventually suffer from slower growth and an expensive cost of rebalancing its markets. Ultimately, analysts agree that China will need to introduce more essential reforms if it aims to maintain its economic strength.  

Sources:

http://fortune.com/2016/11/02/china-housing-bubble/

http://www.eastasiaforum.org/2016/10/24/the-risks-from-chinas-property-bubble/

http://money.cnn.com/2016/09/28/investing/china-wang-jianlin-real-estate-bubble/

http://www.economist.com/news/leaders/21708730-real-estate-elsewhere-its-economy-chinas-short-term-fixes-mask-deep-structural

http://economyandmarkets.com/markets/foreign-markets/china-housing-bubble/

http://therealdeal.com/2016/10/17/fears-are-mounting-that-chinas-housing-bubble-will-burst/

http://www.forbes.com/sites/sarahsu/2016/10/11/chinas-housing-bubble-is-finally-here-as-expected/#7f99210b308a

http://www.forbes.com/sites/sarahsu/2016/10/31/chinese-investment-in-u-s-real-estate-are-going-strong/#6f090ebb36a6

http://asiasociety.org/files/uploads/66files/Asia%20Society%20Breaking%20Ground%20Complete%20Final.pdf

http://www.cnbc.com/2016/09/19/china-faces-policy-dilemma-as-home-prices-jump-in-gdp-boost.html