The government of China has been concerned over rising house prices for years. Following the Central Economic Work Conference in December of 2016 it issued a statement saying, "Houses are built to be inhabited, not for speculation." China has reiterated and stressed the importance of putting in place policies that keep real estate stable and healthy going forward. Over the years low investment returns in the real economy and easy credit have triggered excessive growth in property prices in China and attracted too many financial resources to the real estate sector, causing bubbles and risks. Despite efforts to cool this market and moderate property prices, market sentiment is still robust with a big part of the enthusiasm driven by a lack of other good investment options. This article delves into some of the hidden risk lurking in this market that are often ignored.
|Typical Upscale Housing Development In China|
In trying to understand the massive housing market that drives much of China's growth it is important to realize that people in China buy apartment units that are only roughed in. This means the buyer is essentially purchasing what we in America would call an "empty shell" or an unfinished apartment. In most cases, apartments are sold with internal walls and electrical outlets in place but everything else, including doors, flooring, and bathroom fixtures will need to be built-out by the owner after purchase. It is understandable this created a great deal of excitement for a company like Home Depot that sells the "rest of the package" in a way that can be a one-stop answer for any home buyer. It cannot be underestimated that most of the money spent on constructing a housing unit is spent in finishing, many people give this little thought.
The importance of the housing market in China's economy should not be underestimated, this is where almost 75% of the country's household wealth is stored and it is deeply interwoven with shadow banking. A close look at housing in China and the customs under which deals are completed will give Americans some real surprises. Getting information on this subject is not as easy as we might think in a world where in a blink of the eye we find dozens of articles on America's latest craze. In fact, it takes a bit of digging and research to better understand the internal workings of China and how its real estate system functions.
Unlike property and housing ownership in America and other western countries, all property in China is simply being leased for a 70-year period. The lease is supposed to renew automatically upon expiration, this might unnerve many buyers that know the Chinese government's relatively new Ministry of Housing and Construction retains full "property prerogatives," meaning that leases can be nullified at any time if the government determines that it needs that property for any reason. In addition, the government is also entirely free to decide how much compensation should be offered for that property in the event the land your apartment happens to be located on is reclaimed by the state. Recent regulations now give residents the right to sue the government if they feel they receive unfair compensation, but they rarely win in court.
Then there is the issue of cost, it could be said cheap housing is something you won't find in China. Its housing market is among the most expensive in the world when compared to per capita income. For example, the average price of housing in New York City is around $200 per square foot with an average family income of $72,000 per year. By comparison, the average cost of housing in Shanghai for the year 2007 was nearly $108 a sq. ft. against an average family income of $7,316. Generally speaking, the cost of housing outside of Beijing, Shanghai, and Guangzhou will run anywhere from 1,500 to 5,000 yuan (roughly $20 to $68) a foot depending on location. By American standards the apartments are small, no more than 30 percent of all new apartments can be larger than 90 square meters (970 square feet).
There is a big question and much disagreement over the stability of China's housing market. Shortly following the end of the 2008 summer Olympic Games, the housing market in China fell into an unprecedented slump with housing prices dropping as much as 30 percent below pre-game prices (note this was around the time the world was in economic crisis). Aside from this being a very difficult market in which to predict prices, foreigners may only purchase apartments to live in for personal use and not to rent out. Virtually no secondary market exists to sell into if you decide to relocate. When someone in China seeks to buy an apartment they do not give much consideration to anything but new construction. Most bizarre is the legal protections and real estate standards are not yet well-established. The various procedures and steps Americans take for granted when purchasing a property such as; due diligence, housing inspections, and secure escrow accounts simply do not exist. China is a land where rules affecting value can change with little notice, good luck with that.
Footnote #1; If China does eventually fall into economic chaos as some of us have predicted I suspect you will see many articles like this asking why more people did not see it coming. The Chinese economy has "been very reliant" on government stimulus, rapid credit growth and the flow of newly created money from a loose monetary policy. We should remember China is far from transparent and the risk remains out of sight. The simple fact is we have become complacent over China's current problems, more on this subject in the article below.
Footnote #2; The fact that the PBOC is already scurrying about in an attempt to mitigate damage flowing from the Trump administration is in some ways proof of China's vulnerabilities. The article below goes into more detail.
https://China's Decoupling From America Will End In Failure.html