China's real estate industry was one of numerous topics touched on in yesterday's trade and currency talks at the White House between visiting China President Hu Jintao and President Barack Obama.
Local governments in China, and not only speculators, are contributing to the real estate bubble, according to several published views of international observers.
And because of that predicament, Chinese leaders in Beijing hold the trump card in eventually sorting out the problem. They can clamp down on local government bureaucrats.
Here is how it works:
Most of the real estate debt in China lies with local government, extended by state-owned banks.
Because all land in China legally belongs to the state, real estate developers lease rather than own the land on which their projects sit.
Hu Jintao. president, China
Those leases are made by local government and are an important source of provincial and city revenue. So are the fees associated with transfers of property once it is developed.
Fully half of the Shanghai City government's revenues, for instance, now comes from property transfers and leases, according to analysts who regularly study China's infrastructure.
Is it any wonder then that city and provincial governments encourage development, particularly of the larger and more expensive projects?
Consider another bizarre aspect of the current real estate bubble in China - one that isn't regularly publicized:
Local government dependence on real estate development has become so great that cities have actually used their access to credit at government-run banks to finance projects.
In their drive for development, experts point out; some local governments have actually cut out private developers and set up their own real estate development firms, run by themselves or in cooperation with other state-owned companies.
Among those companies are big corporate names like Anhui Salt Mining Co., the China Railway Group or the China Ordinance Group.
Again, is it any wonder Beijing is having such difficulty cooling the real estate boom? Vacancies? Sure.
Beijing alone is showing 50 empty high rises, according to recently published data from real estate brokerages.
Against this background, some future price correction seems inevitable, even with incomes rising and a seemingly endless stream of migrants into Chinese cities, most experts agree.
As Real Estate Channel previously reported, here is what the government already is doing to stop the housing bubble from further inflation:
- The People's Bank of China (PBC) has raised its benchmark interest rate twice in just the past few months, for a total of 50 basis points.
- The PBC has tried to restrict credit further by raising the reserves that banks must hold against deposits.
- With the finance ministry in Beijing, the PBC has begun to pressure lenders to stiffen their standards for advancing credit and has imposed restraints on land developers.
- The recent moderation in the pace of land price increases may reflect these efforts, though it is clear the bubble continues to inflate.
- The PBC has asked companies to estimate their level of write-offs should real estate prices fall 60%. Previously, such stress testing only considered a 30% price drop.
China's real estate bubble will differ from the real estate debacle that is still going on in many parts of the U.S.
For one thing, China's burgeoning population of one billion-plus citizens desperately needs affordable housing - a commodity that is still in short supply. That means the government will continue to closely monitor and prudently assist the real estate industry for some time to come.
President Barack Obama
Another point: There aren't any free lunches in buying residences in China today. The government has mandated that buyers of single-family homes put down a minimum cash deposit of 20 percent. For second homes, the government insists the deposit be 50 percent of the closing price.
Try doing that in the U.S.
Even with increasing restriction to home buying, property prices in China continue to rise, as Real Estate Channel has reported in previous postings.
Price appreciation is only now beginning to slow but home prices in China last year still rose at an annual rate of about 8%, down from rates of 12-14% last spring and 24% in 2009. The prices were supported by an 82% surge in home buying.
The boom has already brought Chinese land prices to 60% above their pre-2008 peaks. In Shanghai, prices are 87% above previous peaks.
And that price surge gives the government a migraine headache because prices have so far outstripped the population's ability to buy. Nationally the price of a home is about 10 times the median household income, according to various published reports.
In Beijing, for example, housing prices on average are 22 times the average annual income of city residents. In contrast, America's home prices at the peak of its bubble in 2008, stood at 6.4 times median household income.
Experts point out that even in a worst-case scenario, China will face more manageable financial repercussions than America did in its real estate bust. For example:
- Homeowners in China are not nearly as leveraged as they are in the United States.
- In China, a 20% down payment is considered ridiculously low to get a mortgage. The norm has long been closer to 30%, a percentage the government itself now requires. Second homes require at least a 50% down payment.
- A far greater proportion in China than in the United States purchase for cash, hardly surprising, since the Chinese save some 40% of their after-tax income compared with a negative American savings rate just prior to its real estate bust.
- In addition to China's relative lack of leverage, that country's absence of real estate taxes should also make it easier for Chinese households to hang on as prices decline.