China’s property sector is sinking. Once the economic backbone by which hundreds of million Chinese went from poverty to the middle class, the industry is now seeing slumps in the value of real estate that threaten not only household wealth and revenue for local governments, but also the overall growth of the Chinese economy, a key indicator of the Chinese Communist Party’s legitimacy and right to rule.
Behemoth property developers such as Evergrande and Country Garden have gone under. In an attempt to mitigate the fallout, Chinese authorities last week rolled out stimulus measures designed to stabilize the market and to prevent the downward spiral that has seen the value of new homes sold drop by over 23 percent through August 2024.
In the United States, the housing market’s combined contribution to GDP generally averages 15-18 percent, according to the National Association of Home Builders. Contrast that to China, where the housing market once accounted for more than 25 percent, and as much as 29 percent, of China’s GDP. When one considers the economic devastation and property foreclosures that occurred in the United States during the Global Financial Crisis of 2007 to 2008, in an economy far less exposed to real estate than China’s, the risk from China’s property implosion to its overall economic health becomes alarmingly clear.
Not only has the value of housing sold dropped by nearly a quarter, but the average price of those homes that are being sold has plunged. Prices fell by 6.8 percent from the prior month (and on a seasonally adjusted basis) in August of this year, according to Goldman Sachs. July’s price drop was 7.6 percent.
In April of this year, multiple sources reported that Goldman Sachs had made a heart-stopping prediction: It would take $2.1 trillion to fix China’s property sector. Some of those fixes include assistance to developers who have pre-sold units but haven’t completed building them due to lack of sufficient funding. That money is also needed to get excess inventory sold.
The first problem, that of pre-sold – and, importantly, pre-paid – units, being undeliverable because of the developer’s lack of cash to finish them, is one of a mix of ingredients that can easily lead to social unrest. The Chinese government fears that more than any other outcome.
Excess inventory is at epic proportions. Bloomberg Economics reported in late May that China has “the equivalent of 60 million unsold apartments, which will take more than four years to sell without government aid.”
Stemming The Tide: New Economic Measures
Last week, key measures to address the property crisis were announced in a press conference given by People’s Bank of China (PBOC) Governor Pan Gongsheng. As a sign of its importance, the press conference notably and unusually also brought in the top officials of the National Financial Regulatory Administration and the China Securities Regulatory Commission (CSRC), both of whom also have responsibility for fixing the worsening property situation.
Five measures were announced, three of them familiar only to bankers. The first is a cut by China’s central bank of the Reserve Requirement Ratio (RRR) for banks by 50 basis points. That cut alone should free up approximately $142.21 billion for new lending. However, no date was set for this cut to come into force. Pan said that the RRR could be further lowered by another 0.25 to 0.5 percentage points, depending on how much liquidity is in the market later this year.
In addition, China’s central bank will, again at an unspecified date, reduce the interest rate at which the country’s central bank borrows money from commercial banks. This rate, known as the Reverse Repo Rate, is not expected to cut into the profit margins of banks.
Measures directly impacting and hopefully inspiring property buyers include a lowering of interest rates on existing mortgages, leading to an expected reduction of 150 billion yuan ($21.4 billion) less in interest per year, for 50 million families.
Importantly, in order to attack the massive over-supply of inventory, China will reduce the minimum down payment for a second-home buyer to 15 percent, from the current rate of 25 percent.
Finally, the PBOC will allow commercial banks to use all of the money available in the relending loan facility to give loans to state-owned firms to purchase unsold housing units for affordable housing. At present, they can only use the relending loan facility for 60 percent of the loans they give to those state-owned enterprises, hobbling the state companies from buying those units.
Yet, all of these measures combined do not seem to add up to anything close to the $2.1 trillion which Goldman Sachs says that China needs to inject in order to keep the bottom from falling out of one of China’s most strategic and sensitive sectors: housing.
The Housing Market in China: What Went Before
To put the property market into perspective, consider that China has the highest home ownership rate in the world, at somewhere around 93 percent. And it is common for a family to own more than one apartment.
For hundreds if not thousands of years, owning one’s own home in China has been an aspiration if not always a realizable goal.
Of course, from mud hut to mansion, human beings have always sought some level of a permanent, private, personal space in which they can raise a family in safety and in some modicum of comfort.
In China, that desire had an extra element of urgency. If one wanted to marry, a house was an essential requirement. It still is. Talk to any young man from a rural area of China living and working in an urban city in China today, and they will tell you that their goal is to buy a house back home so that they can get married and start a family.
However, during the early years of the People’s Republic of China, that possibility was erased, deliberately and effectively, in line with Communist principles. Housing was in the hands of the state, which allocated and assigned accommodation throughout the country.
As researcher Youqin Huang noted:
In socialist urban China, housing was considered a welfare benefit provided by the state in the form of public rental. Most households had few options but to wait for the allocation of public housing. While privately owned homes were allowed, homeownership was not encouraged or rewarded. In contrast to not so well-to-do tenants in public housing in market economies, it is the most privileged groups that live in public rental housing and the less privileged groups that live in private housing in socialist urban China… Thus homeownership in socialist China had different connotations from those in market economies.
Under China’s Communist command economy, all property above and below the ground belonged to the state. After some reforms, there were exceptions to this in rural areas, where land could be owned collectively. But the average city dweller lived and expected to always live in a government-owned flat or in part of what had originally been a single-family home, never expecting that private, personal ownership would ever be possible.
And then, suddenly, it was.
Overnight, it seemed, in the late 1990s, the Chinese government began encouraging tenants to purchase their government-owned flats, because the government was no longer going to subsidize those housing units. In the heart of Beijing, for example, a family could buy their 30 square meter apartment for the equivalent of $35,000 – also an unheard-of sum, but worth doing if they could borrow the money. Tens and then hundreds of millions did exactly that, and overnight, it seemed, a Communist country that had held tight control over its largest and most strategic asset handed over the rights to that asset, and promoted the opportunity.
When, particularly from the late 1990s on, China began encouraging ordinary citizens to buy the flats in which they lived, a wave of intense structural change occurred in China’s housing market. Despite a lack of wealth, ordinary citizens found ways to come up with the funds necessary to purchase their housing units, and since then, China has become the world leader in home ownership.
The factors that have driven that remarkable transition include culture imperatives as well as financial common sense. For those lucky enough to have been living in apartments in and around the centers of important cities such as Beijing, Shanghai, and Guangzhou, people making less than $500 a month were all of a sudden able to make small and not-so-small fortunes. It didn’t matter that most of the housing units were tiny, usually cold-water only flats, or that living at the top of the six-story building in which they were located meant walking up to it, as none had elevators.
Within a few short years, many of those properties had grown in market value to 10 to 20 times their original selling price. People on $100 a month salaries became middle and upper-middle class instantly.
The Crash
Today, the very property opportunity that made so many hundreds of millions of Chinese financially comfortable and even wealthy now threatens the health of the entire nation with its demise. One can speculate why.
The two highest profile companies, mentioned earlier, Evergrande and Country Garden, between them are responsible for over $500 billion worth of bad debt. Particularly on homes that were pre-sold and prepaid by the customer, where did the money to finish those units go? Clearly, the money was not used to meet the financial responsibilities of completing the building process.
There is a policy measure that China could use immediately to inject new capital into the housing market. With so much spare inventory to be had, why not open up and let the global market buy into the real estate of the world’s second largest economy?
Currently, most foreign buyers are limited to the purchase of one housing unit, and even then, the barriers to ownership are onerous and lack any relationship to market principles. The message is clear: The Chinese government doesn’t want foreigners living in China, especially in the numbers in which Chinese nationals live abroad and own property around the world. All over the globe, Chinese citizens live and are property owners without limits or restraint in foreign nations. China, however, does not reciprocate.
Perhaps it’s time to reconsider.