What if China home prices keep falling?
Chinese authorities have managed to take the air out of the country’s property bubble without causing a crash. Housing prices have fallen some 10 per cent from their peaks while incomes have continued to inflate. The result is that the average urban dweller need only devote 30 per cent of his monthly income to pay the mortgage for a decent sized flat, compared to 45 per cent at the peak.
This is very commendable. Now the question is – how long before the reflate?
Perhaps not this year, perhaps even not the next. But if China’s economy does not achieve the very difficult transition to a more balanced, consumption led economic model, then policymakers will be in a pinch.
And then they will do what many other economies’ custodians do in a pinch: turn to property as an uncomplicated, no-brainer driver of growth.
This is the strategy the UK returned to in 2013, when the Chancellor of the Exchequer started guaranteeing loans for qualifying homebuyers, thus reviving business for the financial and real estate sector.
The US also resorted to fanning the flames of a housing bubble after its internet bubble deflated. As we know that ended very badly; I am not saying this is a good strategy, just a tempting one.
In any case, China is unlikely to replicate an unbridled US-style approach, replete with subprime madness and liar loans. For a better model of a property-dependent growth strategy, mainland authorities need look no further than nearby Hong Kong and Singapore.
Both cities have low taxes, high value-added financial industries, high per-capita wealth stats, decent job opportunities for the educated, and decent social security nets for the less competitive. Much of this rests on the foundation of a sky-high property market, from which both governments derive substantial portions of their revenues.
Sure, there are million things that are wrong with a strategy that ultimately depends on keeping property prices high. It lends itself to booms and busts, sucks all talent into finance and real estate, makes a city expensive and may inadvertently facilitate cartels.
But there are also many upsides. Revenues from property taxes keep income and corporate taxes low. A lively real estate sector bolsters high-valued added service industries – especially the financial sector – and stokes animal spirits. Moreover, it offers another route to get wealthy for those who might not have the skills of a Bill Gates or a Jack Ma.
The question is what to do about the poor and working poor. Hong Kong’s solution has been to put them up in public housing. By protecting the poorest from real estate inflation, there is all the more freedom to allow property prices to rage out of control elsewhere.
China tried to chart a different course for its property market. In the late 1990s, the country privatised its then state-owned housing market. As a result, many individuals were able to monetise the roof over their heads, later trading up for bigger places and getting rich along the way.
This grab-bag system most benefited the connected and the corrupt, as cadres cleared land by brute force instead of proper compensation. But the end result was a very high home ownership rate and a small public housing sector. By the early 2000s, nearly 80 per cent of China’s urban dwellers owned the homes they lived in, and housing made up 50 per cent of urban household wealth.
In the past few years China has switched tacks a bit, vastly increasing its investments in public housing. But the mainland is not following Hong Kong’s route, where around half the population lives in low-cost public rental units.
China has instead pressured or lured private sector developers into building flats that are later released on the market at subsidised rates to eligible buyers.
This supply is adding to downward pressure on housing prices, as policymakers hoped. All good and well – for now. But if prices continue to fall, the wealth destruction could be politically destabilising.
And what happens in a year or two from now if the overall pace of economic growth has decelerated even further?
Re-inflating the property market will be an easy temptation. To do so, China will need to stop dumping discounted housing on the market, and try something closer to Hong Kong’s model.