Winter in Chinese Real Estate

China has made quite a name for itself these past few years by coming up with some sort of an economic "miracle"; from being in shambles during the end of Mao Zedong's Cultural Revolution (which also ended the reign of Chinese communism), China rose from the ashes and became one of the most promising economies to date, providing the world with cheap products by maximizing its export industry. Almost every individual in the world has handled or used at least one Chinese product; this is how influential China has become.

However, despite China wooing the world with its staggering volume of exports, several economists are highly skeptical regarding the sustainability of China's major economic boom. Some of them speculated that it's only a matter of time before this boom turns against the Chinese people, immersing them in an economic slump for an indefinite amount of time. For a while these pessimistic remarks generally went unnoticed as the world continued to shower praise on China for bringing itself back on track, and even managing to surpass the performance of most export-oriented countries.

Unfortunately, the economists' doubts about China weren't without merit. In fact, in all probability, they nailed it, because China is currently finding itself in a tough situation; something that can sabotage the rapidly rising Chinese economy; the cooling of its housing market.

Signs of the wintry real estate in China become more and more pronounced, as shown by Also Sprach Analyst Founder and Managing Editor "Zarathustra" in his articles.

The cooling real estate market are not only making previous home buyers unhappy.  Agencies who are probably more concerned about transaction volume than prices have been struggling with the collapse of transaction volume.  Centaline (whose boss is a completely incompetent man as far as property market forecast is concerned) China division has closed 60 branches (or 15% of all branches) in Shenzhen according to Mingpao and fired about 1,000 employees, and 40 branches in Beijing according cnyes.com.  Again, this is not new, as Midland (1200.HK) has closed all their Shanghai branches in May, even though they bizarrely opened 11 new branches in Nanshan district of Shenzhen according to Sina News.  We wish them best of luck. 

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FT Beyond Brics flagged a report from Bloomberg Businessweek on the rather pessimistic outlook from Zoomlion Heavy Industry Science and Technology’s (1157.HK) boss Zhan Chunxin, saying that “Demand for construction machinery has shrunk drastically and growth will no doubt continue to slow next year”.

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Finally, Bei Fu from Standard and Poor's explained in her March 7, 2012 report how developers are forced to significantly drive prices down to attract buyers.

More price cuts are likely, even for top developers 

We expect property prices to decline by 10% between June 2011 and June 2012. According to the National Statistics Bureau, average selling prices fell by 3.5% across the country from July to December 2011. Sales volume is likely to remain flat or slip in full-year 2012. Discounting is becoming increasingly common, even among leading developers. For some developers and in some cities, prices have already slumped–particularly for new launches.

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As of today, the general protocol of the Chinese government is convincing developers to keep housing prices at minimum in hopes of countering the looming real estate winter. Several developers disagree with the proposition, and a couple of them raised interest rates to compensate for diminishing profits. However, the central government's tactics are well likely to be futile, as one real estate company actually went bankrupt.

Apparently, one unknown real estate developer in Hangzhou has just gone bust.  Hangzhou Jinxing Property's (some sources translated its name as Venus real estate company) application for bankruptcy protection has been accepted by the court, according to sources including ifeng.com.  Jinxing Property is owned by Zhejiang Zhongjiang Holdings, which is also in the process of going bust now, apparently.

(Source: Link)

Although it shouldn't come as a surprise that the government's actions hardly touch the center of the issue. In the process, all the government does is fight with the real estate developers. The government wants prices down and wait out the winter; the developers do not in fear of going bust like the one in Hangzhou. If this is the case, then why exactly is there a real estate winter in China in the first place?

This brings us back to why the economists doubted China's boom in the beginning.

China's boom is miraculous, in a sense that it was rapid, and that the whole world cooperated with China's export-oriented stratagem to rake in the dollars. How did China do this? If you think about it, it should be quite simple; China devalued its currency, the yuan. 

In the abandonment of the gold standard, the world's currencies are now, essentially, fiat currencies; meaning the value of money is practically determined by government caprice. The Chinese central bank, as a part of China's goal to make a quick economic boom, proceeded to drive down the price of the yuan, making it cheaper relative to the US dollar. China then maximized the efficiency of its export industry, essentially flooding the world with Chinese products.

With so many Chinese products to choose from at a very cheap price (due to the devalued yuan), the world was more than willing to tag along. And so the historic boom was born. China stimulated global economic activity like never before. However, beneath this seemingly utopian trading spree, lies at least two dark factors; one of which is purely theoretical.

1. Devaluation, then inflation

China has indeed produced an impressive economic boom for the world to enjoy. However, this doesn't automatically mean prosperity for the locals. In fact, as recent events demonstrated, the "miracle" of China is slowly proving itself to be a "curse" for the Chinese people. 

This is because of the inevitable consequence of currency devaluation. Since the yuan is cheaper than before, it would require more yuan to purchase stuff in China. Therefore, the Chinese actually had less purchasing power in the onset of the boom, and now need more bills to cope up with the devaluation. In effect, China has triggered its own inflation. But then, not only Chinese consumers are affected. 

Real estate developers are affected as well. And since the housing market of China is relatively new, its far more susceptible to economic imbalances than the other markets. Developers, faced with less valuable yuan, had to raise their prices to cope up with the expenses. The purchasing power of the Chinese consumer went down, while the young housing market prices went up; the worst of both worlds, all in the name of the Chinese boom.

Needless to say, people cut back on buying houses. At the same time, real estate developers are going nuts because nobody's buying their products. This brings us back to the current situation at China. The government is forcing the developers to cut down prices in hopes of winning customers back; however, developers are also afraid of incurring losses, so some of them are adamant in keeping prices high, while some of them actually increase their interest rates. The dollars received from exporting yield less value than the value of the products exported; China is selling at a loss.

To add insult to injury, it would seem that the foreigners take the bacon for the Chinese boom, while the locals take the trash. The importers had more products to choose from, and at a very cheap price to boot, while the locals have to deal with low income and high prices. This is nothing short of a tragedy.

Here we stand witness to a roller-coaster of economic mess-ups of China, which, ironically, seems to stem from the boom that made it the talk of the town in the first place. At least we know something; in all likelihood, the Chinese government holds the blame for this colossal mess.

(To know more about the yuan devaluation, you can check this link.)

2. A subtle US-China beef?

We know how China flooded US with Chinese products. Also, the world knows how scared US is of a phenomenon called "trade deficit," where the amount of imports exceed the amount of exports (a trade surplus is the other way around; exports exceed imports). Steve Forbes, among others stressed that US shouldn't worry itself over trade deficits, since they are a natural part of the international business cycle. However, the US is still skeptical; professor Paul Krugman even suggested that US adopt protectionist policies against Chinese goods via quotas and tariffs. 

Is China, somehow, for some reason, bent on scaring the US into triggering its own imbalance? Whatever the answer is, it must have failed to consider the implications of this export-oriented boom on its own economy, as shown by its clumsy responses to the cooling real estate market. Furthermore, it must have failed to consider that the importers are the actual winners in this unsound boom. Or China might just be going berserk or something. This whole proposition of course, is highly theoretical, but not without merit; after all, political tensions between US and China is but common knowledge to the global community.

So what can be done to put an end to China's real estate winter? Given how the government became a crucial factor to the onset of the crisis, it is a plausible solution to relax its grip on the yuan; let its value be more determined by the law of supply and demand; in other words, let foreign exchange do its job. Also, it would be wise for China to put less pressure on its export industry and start working on its internal economy. 

China can also manage its liquidity to temporarily convert cash into tangible assets. Moreover, it can convince foreigners to hold yuan bonds for future use; right now, an important goal of China is to stabilize its inflated money supply. China must contract it at just the right level.

However, there is a fair chance that China might not have the time to pull all of these off before undergoing a slump of some sort. This turns our attention to possible long-term solutions.

I might write an article that will extensively tackle this issue, but, given the series of troubles fiat currency has caused the world, it might be time to revisit the past; China, together with the rest of the world, might have to anchor their currencies not to the whims of the government, but to something of intrinsic economic value. Perhaps, the world should go back to pegging paper money to an actual treasure. Perhaps, for the sake of monetary stability, the world should reconsider the gold standard.