China's Looming Real-Estate Bubble

A massive Keynesian spending program has misallocated capital and set the stage for a crisis.


American enthusiasts of more stimulus have been urging this country to look to China for guidance on how to beat a recession. As they see it, while our politicians debated and dithered and fell short, China's wise autocrats moved quickly to inject a massive stimulus and restore robust growth.

Despite the global downturn, China's economic growth rate remains above 10 percent. But there is mounting evidence that Beijing has misallocated vast amounts of capital, touching off a real-estate crisis that could yet drag the world's second-largest economy down to earth.

When the global marketplace went into meltdown mode two years ago and Chinese exports dropped off, Beijing mounted a stimulus several times bigger relative to the size of its economy than in this country. It announced a four trillion yuan ($586 billion) stimulus for infrastructure projects and housing developments. Some of the stimulus was used to encourage local governments to lend money to state-owned companies to develop housing complexes, roads and bridges, on the theory that these are big employment generators because they boost heavy manufacturing—steel, cement—and other sectors of the economy.

Beijing also lowered capital reserve requirements for its state-owned banks ordering them to dole out loans to "support growth." Though official data are unreliable, in 2009 Beijing apparently handed out somewhere close to 10 trillion yuan in new loans—more than twice the year before—and expanded the country's total loan portfolio and money supply by one-third, according to Patrick Chovanec, associate professor at Tsinghua University's School of Economics and Management in Beijing.

Prominent progressives in this country hailed the moves. Paul Krugman wrote: "China is doing what I'm constantly urging the Obama Administration to do, which is to reverse the economic decline by a large-scale stimulus." Dean Baker, co-founder of the Center for Economic and Policy Research wrote in TalkingPoints Memo last year: "If only we could export our Blue Dogs and deficit hawks to China, we might be able to compete."

But that ignores the nasty side effects. Fueled in part by this massive injection of liquidity, housing prices that had started dropping due to the recession began to soar again. Over the past year they increased nearly 12 percent, according to the latest figures from China's National Bureau of Statistics. So many middle-class Chinese (especially young couples wishing to move out of their parents' home) are being priced out of the market that their travails became the subject of a popular TV series called Dwelling Narrowness. Beijing banned the show, fearing it would cause unrest.

The problem is that government money is going to build homes not for occupancy but for ownership. Speculation, if you will. Andy Xie, a Shanghai-based economist formerly with Morgan Stanley, believes almost 25 percent to 30 percent of private commercial and housing stock in China is vacant. Entire cities, such as Ordos in inner-Mongolia, erected literally from scratch, stand empty.

"Chinese treat homes like gold bars buying multiple units as a store of value," notes Chovanec. Chinese avoid the stock market because it is still volatile and risky, and banks and bonds offer a low yield. Hence, Chinese are content to buy homes and let them sit because, thanks to the absence of property taxes, holding costs are negligible. Having never experienced a housing slump since China privatized its housing market in the 1990s, they believe that home prices only rise.

This can't last, but backers of China's stimulus believe there won't be any serious economic downside when the bubble bursts. Homeowners won't be thrown on the street because Chinese buy their first homes outright through their savings—not loans. And when house prices drop, the excess stock will quickly get scooped up—not boarded up.
While Chinese homeowners are not generally leveraged, those who buy second homes do finance them. And developers, including local governments and state-owned companies, are massively leveraged. This poses a big problem—Shen Minggao, Citigroup's Hong Kong-based China economist, estimates in Bloomberg Businessweek that at least 2.4 trillion yuan of the stimulus is already in nonperforming loans.

China's autocrats understand that they have a bubble on their hands. They've mandated minimum down payments of 50 percent on second homes and are considering property taxes to rein in speculative purchases. However, this will mean that the houses put on the market will find fewer buyers.

Beijing is in a dilemma. It can cut spending and rein in its monetary expansion, releasing over time capital for more productive endeavors (especially if it opens up hitherto closed investment options) and putting the economy on a healthier footing. However, that would mean slower growth, lower home values, rising unemployment and potential political unrest. Alternatively, it can buy a few more years of faux-growth and stability by propping up the real-estate market—and risk making the day of reckoning far worse when it arrives.

Either way, Beijing's mandarins haven't discovered some magical formula to spend and inflate their way out of a recession. Pouring liquidity into real estate is the Keynesian equivalent of digging ditches and filling them with stones. Unfortunately, the Chinese economy has fallen into one—a ditch, that is. The U.S. might have endured a bad recession. But so long as it avoids the second stimulus that China enthusiasts are advocating, it might be up and running while China is still digging itself out.

Shikha Dalmia is a senior analyst at Reason Foundation and a columnist. Anthony Randazzo is Reason Foundation's director of economic research. Reason Foundation research assistant David Godow provided research support. This article originally appeared in The Wall Street Journal.

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  1. As usual a story based on assumptions and predictions that China is always wrong and the west always right. In reality its always the other way round and the writers are just academic fools.

    1. Did you read the article? The thrust of it is that China did exactly what the west did, but bigger. This was hailed by western Keynesians. But the results of their stimulus is no better than ours.

      How does that translate to “China is always wrong and the west is always right”?

      1. This is a standard reply one sees all over the internet from some Chinese posters, anything that points out any problem in China is immediately seen as saying that the West is better.

        1. Are you guys from Fox News. The United States can do no wrong and because China is communist, it can do no right. Hey let’s nuke them, before they attack us or worse yet Israel.

          1. Not Fox news Libtard….we are from reason!

    2. In reality its always the other way round …

      So China is already right and the West is always wrong?

      1. Yeah for totalitarian Keynesian-ism!

  2. China economy #1!


    2. No, China, you wrong! Best Korea Number One big time! There is no recession in Best Korea, only in yellow running dog capitalist countries.

      1. There is not down if you’re already at the bottom.

  3. Paul Krugman wrote: “China is doing what I’m constantly urging the Obama Administration to do, which is to reverse the economic decline by a large-scale stimulus.”

    Well, there you have exactly what is wrong with Krugnut and China – like killing two idiots with one stone.
    China would do more for itself, the world, and the US if it simply allowed its currency to appriciate and its labor to behave freely. Than the US could try the free market too.

  4. “Beijing banned the show, fearing it would cause unrest.”
    Krugman’s licking his chops at the thought.

    1. Three lines, no more!

    2. If only I could get away with banning TV programming… *sigh*

  5. The first paragraph was good, but it went downhill from there.

  6. If there is a Chinese Capitol, I’d bet it’s still in Beijeing.

  7. I was also reading in “the economist” that Chinese citizens are technically required to own a specific permit to own a residence and seek employment in their respective locations. Basically, the Chinese didn’t want a flood of poor workers from rural areas to move into the big city creating slums. Rural dwellers are basically tied to agricultural land that they are unable to sell, except for agricultural use, which is meant to keep agricultural land from being “overdeveloped.” Although rural dwellers often cheat the system, this creates a country in which the major cities see a fair amount of upward price movements. Labor and land prices are being unjustly bid higher and higher in the big cities and the areas chosen to be used for non agricultural purposes. This is similar to the zoning regulations that bid up home prices in some US cities.

    1. A new policy in China is to encourage farm residents to move into the cities, and they are making it easier for countryside people to get urban resident cards. Much of eastern China is now in small farms often populated by old people. They don’t want to develop much more farm land into urban sprawl, so they plan to consolidate small farms and increase farming efficiency, something they can do if they move small farmers into more urban settings. The big difference between Chinese policy and U.S. policy is that the U.S. government kept pushing the banks to give subprime loans to people who didn’t qualify. China, at least, has increased down payments and has eliminated loans for third houses.

      1. “and they are making it easier for countryside people to get urban resident cards.”

        THey could just allow people to move away from family farms into the city. They could also allow small farmers to sell their land to anyone they want for any purpose the buyer wants, and that would allow for more development outside of the cities. Yes, they are consolidating small farms into big farms, but by restricting who the small farmer can sell their land to and for what purpose it can be used for, they are restricting the amount of money a small farmer can sell his/her land for and they are restricting development to a few zoned areas. Strict land use control was one of the factors that led to the boom in home values in many states. People had to pay sky high prices for certain plots of land because other plots were off limits due to zoning restrictions.

        1. True. Texas which has no zoning had no housing bubble. Land control use was one of the factors which caused the bubble. Generally all it does is slow down the reaction time of supply to demand which leads to a bubble when demand exceeds supply for an extended period of time.

  8. So it seems that the Chinese government is being much more conservative and cautious than the private market was here in the US.

    Only in a libertarian’s mind could this somehow be advanced as an argument FOR the private market.

    1. So it seems that the Chinese government is being much more conservative and cautious than the private market was here in the US.

      Reading comprehension FAIL.

      1. Chad never misses an opportunity to shit on the private sector.

    2. China’s government is mirroring the activities that got the United States into the bubble situation. That is, they are making home ownership into entitlement program. Just like we did, and what pray tell did that do to us?Both Team R and Team D congress critters promoted homeownership as a right and why wouldn’t they, if Congressman Snappy gets people into homes, Congressman Snappy is more likely to reelected.

      My question to you is this, how does the progressive brain remain completely blind, deaf and dumb to the HUGE role that government regulation had in creating the inflated housing prices?

      Did securities houses do dumb things like package risky mortgages in to snazzy packaging because housing was a sure thing? Yes, and many of these companies and the individuals purchased these securities that payed the price.

      Did mortgage lender’s make stupid loans to individual who could not afford them? Yes, again these banks took it in the shorts, some are extinct.

      Here is the part that the progressive mind seems to have difficulty with. The individuals that signed on the dotted line agreeing to these ridiculous loans or onto loans that there was no possible means they could repay are RESPONSIBLE AS WELL, whether it was ignorance or trickery. The application of a smidgen of common sense would have told these individuals that an interest only loan is a bad idea or that a mortgage payment that leaves you only enough money for a half tank of gas in probably unwise.

      So there is plenty of blame to go around, starting with government inserting itself in to the housing market. Those that are to blame for this train wreck ARE being held accountable and are being punished, those that did not get bailed out by the government, that is.

      1. China’s government is mirroring the activities that got the United States into the bubble situation

        We had a 50% downpayment requirement? Citation, please.

        Obviously, we did not. And if you can’t figure out why lowering leveraging of 30+ to 1 to 2:1 would make a mountain of difference, you are hopeless.

        1. You must think you’re a clever mother fucker, by completely ignoring the point. It doesn’t fucking matter how much of a down payment China requires, because that doesn’t apply to developers and business speculators trying to ride on destructive housing market subsidizing policies. And down payment requirements don’t mean shit, if everyone is making down payments on inflated housing prices that are due for collapse.

    3. There is no “private market” in banking.

      1. True to some degree. But that implies both that your “markets uber al” philosophy is both untested AND untestable. Ergo, we should ignore it.

        1. Untested and untestable? The Virginia Colony had a monetary system based on tobacco, which was a 100 percent reserve based system. Currency in the New World was based on metals from all over the world that traded at their actual market price. We know exactly how a true free banking system would work, and the only reason not to implement it is that it would take away government power over the economy.

    4. Ya they are being incredibly conservative. The Chinese are investors not speculator. An ancient Chinese proverb says that “if you build it they will come”. This the Chinese don’t have to worry that they have whole cities which are uninhabitited. They know that those cities will soon fill up with dead baseball players.

    5. Hey chad why don’t you wipe your green snot infested troll nose and take a nap under a bridge…..

  9. Probably overlooked is the fact that just the younger generation in China loves to suck credit cards. Most Chinese understand you can’t become prosperous on borrowed money, so they tend to save or borrow within the family for major purchases. My friend here recently sold a house on the second ring road of Beijing and the first six potential buyers offered two million ($300,000) yuan in cash each. Savings in Chinese banks last I heard was about four quadrillion Yuan. Savings rates in the U.S. are negative.

    1. Laoshi|8.27.10 @ 5:38PM|#
      “Probably overlooked is the fact that just the younger generation in China loves to suck credit cards.”
      Does this mean that younger Chinese use credit cards? If so, that says that most Chinese will be using them in a short time.

      “Most Chinese understand you can’t become prosperous on borrowed money, so they tend to save or borrow within the family for major purchases.”
      Well, first, assuming you have a good idea, you sure can become prosperous using borrowed money. Secondly, borrowed money is borrowed money, regardless of whether the lender is a relative.

      “Savings in Chinese banks last I heard was about four quadrillion Yuan. Savings rates in the U.S. are negative.”
      Not sure that the amount of Chinese savings has a lot to do with current US saving rates, but are you hoping the Y4Qn amount will offset the Y2.4Tn non-performing loans and the government’s Y4tn ‘stimulus? If so, that’ll be a hell of a tax on savers, and I predict there’s going to be a whole lot less ‘savings’ in the future.

      1. “Secondly, borrowed money is borrowed money, regardless of whether the lender is a relative.”

        Uh, not quite.. Money borrowed from relatives is at least money that came from some sort of wealth creation, and thus ultimately limited in its scope and quantity; unlike, say bank loans, which ultimately come from the magical money making mystery land of King Bernanke and his jester Krugnuts..
        Banks can just keep handing out credit as if it were E at a rave, right up till they get baile… go broke and learn to be responsible lenders..

  10. it went downhill from there.

  11. Inflation in the US is running at perhaps 5% per year and interest rates are perhaps 1%. Yet “nominal” interest income is taxed at nearly 50%. Who should wonder that savings is very low in the US.

  12. Gawd damn you, mongorians! You break mah shitty waaaa!

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  17. It’s encouraging to think that we’re not the only ones digging an economic hole for ourselves. I can’t believe that some are saying china has a 20% + vacancy rate for their housing and real estate. I wonder what their apartment market looks like. Rental housing there must be an interesting market to study.

  18. The impact of a significant correction in China real estate market will be controversial. One usual bullish argument is that household leverage is low in China, such that the chance of a US-style housing bubble burst is very slim.

  19. “I hated sports. I hated sports, and I hated people who played them, and I hated people who watched them, and I hated people who didn’t hate people who watched or played them.” tuxedo

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