China’s Empty Cities

In an interview last week on CNBC, Jim Chanos said the following about China:

“Construction is 60-plus percent of GDP, compared to exports of 5 percent… The problem is that consumption as a percentage of Chinese economy has declined in the last 10 years, from 40 to 35 percent. It’s all real estate…When construction is 60 percent of your economy, and you are building lots of things that people don’t need, the state may let this get out of control… It’s hard to manage this type of bubble”.

Chanos also warned that steel, iron ore, cement and other materials needed for construction will be “under pressure” once the unsustainable construction boom subsides.

Now Business Insider has provided proof of China’s over-building and malinvestment with alarming satellite photos of entire cities laying vacant. Here’s what the article has to say:

The hottest market in the hottest economy in the world is Chinese real estate. The big question is how vulnerable is this market to a crash.

One red flag is the vast number of vacant homes spread through China, by some estimates up to 64 million vacant homes.

We’ve tracked down satellite photos of these unnerving places, based on a report from Forensic Asia Limited. They call it a clear sign of a bubble: “There’s city after city full of empty streets and vast government buildings, some in the most inhospitable locations. It is the modern equivalent of building pyramids. With 20 new cities being built every year, we hope to be able to expand our list going forward.”

And here are some of the photos of China’s empty cities. For the full gallery, vist Business insider.

Warning signs for Australia:

As I have said previously, no other commodity exporter has benefited as much from China’s over-investment in fixed infrastructure and real estate than Australia, as shown by the below IMF chart. Australia’s terms of trade (ToT) has risen to its highest level in a century as China has driven-up the prices of iron ore and coal – Australia’s two major exports.

The record high ToT has significantly raised national income, increased the Government’s tax take, and sent the Australian dollar to near parity with the USA.  The surge of the ToT has also led to a significant increase in mining investment, as mining companies look to build supply capacity (see below RBNZ chart). This investment, in turn, has significantly boosted Australia’s GDP.

Now you don’t have to be Einstein to recognise that China’s growth strategy, based on building a whole lot of things that nobody needs, is unsustainable. You also don’t need a PhD to predict what will happen to commodity prices once China’s construction slows, and reduced commodities demand is met with increased supply, courtesy of the massive amounts of mining investment currently being undertaken by Australia and other commodity producers. Put simply, all of the positive effects on employment, incomes, growth and the Government’s fiscal position received by Australia over the past decade would unwind precipitously.

In fact, the Australian economy risks experiencing the doomsday scenario, whereby China’s slowing causes: (1) Australia’s ToT to crash; (2) increased unemployment; (3) severe worsening of the Budget bottom-line; (4) credit rationing and severe bank stress; and (5) a house price crash.

Once again, the doomsday scenario that I have outlined above is probably the worst-case outcome for Australia, and I am not predicting that events will unfold this way. But you should at least recognise that even if the bears, like Chanos, are only half right on China, then the impact on Australia’s economy could be severe.

Cheers Leith

Unconventional Economist

Leith van Onselen is Chief Economist at the MB Fund and MB Super. Leith has previously worked at the Australian Treasury, Victorian Treasury and Goldman Sachs.

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Comments

  1. Not once would you ever see reference to that in our mainstream media, let alone a hint of admittance that there could be the slightest risk to Australia should something occur in China. That is sobering indeed.
    One thing that I have noticed being domiciled in Asia is the Japanese ambivalence towards the Chinese growth story. Make of that what you will.

  2. Just to put a damper on your conspiracy theory – China has always (well in last 20 years anyway) built first, populate later. It is a WAY more efficient way to create infrastructure. That is how they created Guangdong, the first industrial zone. They flattened the land, build the infrastructure, THEN moved the people in to do the work.

    I am not saying they are not in a bubble, they are probably building at a rate to meet current growth expectations. If growth is not met then they will have built too much.

  3. Hi

    well, its been discussed on SBS some time back, but I guess that's not "main stream media"

    The problem (as I see it) is that(sadly) Australia is mostly bogans and nongs and as they are the ones who are pulling the puppet strings for the politicans we'll only get ACA standards in reporting.

    Nice supporting evidence to your arguments however Leith.

    Quick question, does your "relative" at The Australian believe in the "dogma of infinite growth" or was it just a style issue?

  4. Leith

    sorry about that last one, i left the blog and came back to it while writing the comment and in doing so managed to forget that you had given forensic asia a mention in the blog.

    nevertheless, the linked report is well worth a read by all.

    cheers

    Justin

  5. This reader said "Just to put a damper on your conspiracy theory – China has always (well in last 20 years anyway) built first, populate later. It is a WAY more efficient way to create infrastructure. That is how they created Guangdong, the first industrial zone. They flattened the land, build the infrastructure, THEN moved the people in to do the work."

    I am not saying they are not in a bubble, they are probably building at a rate to meet current growth expectations. If growth is not met then they will have built too much. "

    YOU KNOW I WOULD BELIEVE THIS THEORY BUT WHEN HUGE CITIES AND OFFICE SPACE ARE SITTING EMPTY FOR OVER 5 PLUS YEARS THEN IT JUST DOESNT CONVINCE ME. I HAVE HEARD ALOT OF PEOPLE OUT THERE SAYING THIS AND NOT BUYING IT. THE WRITING IS ON THE WALL THAT SOON ALL THIS STUFF THEY HAVE BEEN BUILDING AND ALL THIS MONEY THEY ARE PRINTING IS GOING TO COME TO HEAD. THE AFFECTS DOWN IN AUSTRALIA ARE GOING TO BE MAJOR TROUBLE FOR AUSTRALIA.

    LBS

  6. Leith

    quick question (again). Have not chinese interests bought into Australian real estate and Australian mines? No matter what happens to their economy in the future, those who own those things will continue to own them. No?

    Sounds like a case of the flight of the Phoenix but using a nation instead of a plane crash.

  7. The issue of China’s empty cities is not as damning as you make out. My father is an architect who has worked the Asian construction industry, particularly China, for the last 23 years. He said that for the last 20+ years China have build big and populated later. He has been to a couple of the cities mentioned in this post and said that the images are only snapshots of the cities. Many of them are actually completely packed except for these new developments. No place in China will ever be as clean as the images shown. They are all very recent constructions.

    A bigger threat to China’s economic stability is the Western Regions, where most of the building is occurring. They do not consider themselves to be a part of China. Economic growth is the only issue keeping that whole section of China together. The massive building is a way of encouraging these people to remain calm and a part of China. If they stop then the country may be sent into turmoil.

    China has serious social issues which have more potential to destroy the country than the current real estate bubble they are experiencing.

  8. There is vacant real estate all over China – sorry but not simply empty cities – what is worse is that many of these developments are exceptionally shoddy – and even the good ones have 15-25 year life spans, most are not fitted, meaning occupiers must fit them out. Hence the value of this boom is compounded not simply by bubble prices, but lack of durability. Really scary.
    The West is facing austerity measures in almost every nation – there is going to be massive decline in consumption through out the west – right now we are simply living off the stimulus from the last couple of years – we will only start to feel the effects of the current economic climate late 2011 – watch China recoil – going to be very, very ugly.

  9. I did witnessed the massive built-up of Zhengzhou New District in the year 2002. The government had the exhibition of what it will look like. The new town was designed by a Japanese architect. Behind the built up, it is the private motive that dominates. The government had chased off farmers, small factories, warehouses with little compensation and sell the land at a big profit to the powerful elite. I was tempted to buy some commercial properties there but the listed price were so high that make them unreasonable. The main area of Zhengzhou still centered around the old district. They tried to encouraged the farmers to move there with the promise of a city residence. However, not many move because they don't want to loss the land. The buildings have been built for over 4 years. Based on Chinese standard, buildings usually suffered triple actual detroriation than in the west. They may resort to demolition in the future.