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  • Dec 26, 2014
  • Updated: 10:35am
Monitor
PUBLISHED : Thursday, 18 July, 2013, 12:00am
UPDATED : Thursday, 18 July, 2013, 4:17am

A property slump will affect the whole of Hong Kong's economy

Last week Monitor argued that the gradual tapering of quantitative easing and the eventual increase in American interest rates that will follow are likely to trigger a slump in Hong Kong property prices of 30 per cent or more.

That might sound like a good thing. Lots of families would like to buy. But with the minimum down-payment on a typical Hong Kong flat now equal to four years of median household income, many have been priced out of the market. To them, forecasts of a property slump are welcome.

But property prices do not fluctuate in isolation. In a city where the property market contributes a fifth of our gross domestic product, a big fall in prices will inevitably affect activity in all other sectors of Hong Kong's domestic economy.

First of all, a property bear market will erode consumer demand. With residential mortgage debt currently standing at 46 per cent of Hong Kong's GDP, a decline in the value of flats would have a big effect on household balance sheets.

For the hundreds of thousands of families paying off a mortgage on their flat, a fall in property prices would undermine the value of their assets relative to their liabilities, making them less inclined to go out and spend. That's not all. Falling property prices - and even the fear of falling property prices - will also affect the stock market, as the share prices of developers take a beating.

We've seen this factor at work recently. Even though home prices are up by 3 per cent over the last six months, the Hang Seng properties index of leading developers and landlords has dropped 15 per cent as investors anticipate falling profits over the next couple of years (see charts).

That hurts, because a weaker stock market makes investors feel less wealthy, adding to their reluctance to spend on big-ticket discretionary purchases.

Together, the direct impact of falling home prices and the indirect effect of a weak stock market can make a significant difference to consumer behaviour.

According to Marcella Chow at Bank of America Merrill Lynch, a 15 per cent decline in Hong Kong property prices relative to the prices of other goods and services knocks between 1 and 1.5 percentage points off the growth of private consumption spending.

A weak property market also hits investment. Most obviously, falling sale prices mean thinner margins for developers, which make investment in new construction projects less attractive.

But there is a second order effect, too. A softer property market weakens companies' balance sheets and chips away at banks' asset quality.

That makes companies nervous of investing, and banks less willing to lend to fund investments, especially in a city where the owners of small companies commonly put their own flats up as collateral against business loans.

Putting these two effects together, Chow estimates that a 15 per cent decline in the property market cuts private investment by almost 4 percentage points.

A decline in the value of flats would have a big effect on household balance sheets

On top of that, falling property prices eat into the revenues of the Hong Kong government, which both directly and indirectly relies on the property market for as much as a third of its income.

That shouldn't trouble officials too much, considering they have enough accumulated reserves to cover years of budget deficits.

Even so, the overall effect of a slump in the property market on Hong Kong's economy would be severe.

Chow is forecasting a 5 per cent decline in property prices this year, followed by a 15 per cent fall next year; a fall she expects to knock a full percentage point off the city's GDP growth in 2014, reducing it from 3.8 per cent to just 2.8 per cent.

So maybe a property market correction isn't such good news after all.

tom.holland@scmp.com

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This article is now closed to comments

johnyuan
Banks are the beneficiary from mortgage payments – high yield and low risk. Absolutely no risk especially the mortgagees are Chinese (in Hong Kong) with a variable interest rate mortgage. It is just stating the fact. My social comment will be less polite. The bankers are using money to create more money which is just being a parasite diverting capitals away from productive work. LKS knows well, he once advised everyone not to indulge in property speculation because it is just a bowl of sugar balls in sugar soup -- all sugar and nothing else. The government should listen to Li and get Hong Kong off the property addiction. Do something more useful and productive.
caractacus
The thrust of this article is that the market should be manipulated so property prices do not fall.
This is precisely what the administrations of Tung Chi Wah and Donald Tsang did, resulting in the crazy property prices and rents we now see. Just how long do you think Hong Kong people can afford to pay massively inflated prices and rocketing rents for residences, shops and offices when their incomes cannot keep pace? By your logic within 10 years half the population will be working and sleeping on the street, while the fat developers and bankers look down on them from the Peak. Thank goodness the rotten Henry Tang was not elected, we might have seen the return of the Workhouse too.
As Dragon Eyes says, rent control did not cause the sky to fall.
mcheung
Tom...a lot of what you said has some truth to it....BUT I have to disagree with you on the consumer's spending. Most goods are made outside of HK, and any big item discretionary consumer spending goes to benefit other countries, for example, the purchase of an expensive BMW/Mercedes benefits Germany, cosmetics purchase goes to Japan/South Korea, so on and so forth. The only local real beneficiary is the Developers and the Big Landlord, who can raise the rent at their own will.
SpeakFreely
Disregard what happen Hk long term is only one direction, down.. Why? Aging population similar to Japan, complacent Hk people, finance center soon to be replaced as yuan will float soon, and 2049 is coming soon, what do u think china will do? Anyone worked in china before understands how china works. Don't you?
lamlm38
tom ought to have his private anatomy kicked!!! his balls namely !!!
HK-Explorer
Hopefully the government once they see property prices have fallen by 10% will stop this over building and reduce all the controls currently in place such as double stamp duty etc... The government measures should just be temporary. Prices may still drop but at least free market will be back.
Fall in property prices will impact allot of people but help virtually no one. People wont see their houses if prices drop 30%. It will just be technical down but not an actual one where people rush to sell like in SARS. People still need a place to live.
Giwaffe
@maecheung: Great point. The private consumption spending that leads to the most benefit for the HK economy is in the food, hospitality, and services industry. Discretionary item spending only benefits HK in that local workers are hired to sell those products since said products are manufactured abroad. Of course, landlords will always benefit from rent but in the aggregate they contribute a fraction of what they earn back into the economy. Landlords are regressive to an economy; the higher the level of rent or property value, the greater the barrier to new business formation and economic growth. Thus, landlords can only gain at everyone else’s expense. The more happy the landlords, the more unhappy the rest of society. Therefore, the best environment to foster sustainable economic growth is usually a minimally priced property market and minimal rent environment.
taihang
It's academic, QE won't be abandoned any time soon, and in any case there is the whole asset purchase program to wind up before you can start to think about higher interest rates. HK got addicted to the medicine without even having the disease, now it has to suffer the asset bubble side effects, and eventually it will suffer from the effects of misallocated capital once withdrawal happens.This peg sure is good stuff!
jasonbrockwell
The end of cheap credit will slow things down? You may be right!
grouperm
@ Giwaffe. The comment "to foster sustainable economic growth is usually a minimally priced property market and minimal rent environment" is short sighted. Rents in a market-based economy such as HK are based on supply/demand. The only way you'd have minimal pricing power for a landlord is in locales where there is minimal demand and then what do you have? Detroit USA. So I ask, would you rather be in a economically and socially decaying monolithe or would you rather be in a dynamic city which has over the past over 100 years been at the center of world trade? Your answer will inevitably lead you to restate the cure for which ails the socio-economic imbalance in HK.

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