China’s property bust: From Beijing to Bondi

Cross-posted from Investing in Chinese Stocks.

Whenever money is printed or there is growth in credit, there is the Cantillon Effect. Very simply, inflation is not evenly distributed; it works through the economy unevenly. Print money in the 1970s and it flows into energy and commodities. Print money at the end of the 1990s and it flows into a technology stock bubble. Print money in 2009-2010 in China and it flows into real estate. Where the money flows depends upon on demographics, tastes and preferences of those first receiving the money, or existing investment trends.

This often causes bad economic policy because the public demands a response to inflation-caused distortions. In the 1970s, inflation caused oil prices to surge and the U.S. government instituted price controls, which led to gasoline shortages.

Today, the Federal Reserve prints money and this is aimed squarely at financial markets and Wall Street banks. The result is rising wealth inequality. For people worried about wealth inequality, there is a simple solution: stop printing money. The wealth gap will close very quickly. Instead, there are proposals such as Piketty’s, to have global tax and redistribution schemes. Intervention for the intervention. And when that screws up the economy, there will be another intervention and then another…

China provides many examples of the Cantillon Effect. Not only does China print like mad, but when the Federal Reserve prints money, lots of it eventually flows into China. China then exports this inflation to the world based on what it demands. Milk powder, gold, luxury handbags, homes etc.

From 2010, Andy Xie on China’s demand for French wine:

What’s bubbling in China today? Fine wine in general, and particularly bottles of the French wine Chateau Lafite Rothschild, whose prices have skyrocketed in recent months for some vintages, following a pattern set by NASDAQ in 2000. What I’ve seen and heard over the past few months has convinced me that the whole fine wine market is a bubble.

I wrote a few months ago about why the market for Carruades de Lafite wine is a bubble in China. I never expected the Lafite bubble to continue inflating at such a rapid rate. And prices are still climbing thanks to demand for this classic wine in China.

What’s happening? The Chinese impact on Lafite mirrors the LV bags price phenomenon and similar patterns for popular luxury goods, although wines are even more susceptible to liquidity bubbles. And like any asset, the force behind the wine price bubble is a low interest rate environment.
I remember Xie discussing how one brand wasn’t even that good, but because the price was soaring, it kept on soaring.

The Chinese moved from wine on to real estate in Vancouver, Sydney, London, New York, Palo Alto and San Francisco:

PHIL MATIER: What have we got going on here with these cash sales? They’re phenomenal, up in excess of a million, two million dollars.

MARK McLAUGHLIN: Yeah, it’s a phenomenon that’s very active in the marketplace. Some of it is being driven by the liquidity in the Silicon Valley and the city of San Francisco but also, at Pacific Union, we’re seeing a large influx of foreign capital — particularly coming from China.

MATIER: What is driving the capital here … what’s [causing] people from China to invest this kind of money in San Francisco?

McLAUGHLIN: I think we’re seeing three different phenomena. One is asset diversification, people trying to move money out of China. Two would be education for their families. And three would be lifestyle, this is a beautiful place to live.

MATIER: Are they actually living here or are they just buying houses here the way we might be puttting money in a safety deposit box — it would be safe here, it’s free from any government moves in China and the value would be appreciating?

McLAUGHLIN: It’s difficult to generalize on that but I’d say that probably fifty percent of them are living here. Whether they’re living here to get their education or whether they’re living here for a change in lifestyle. Undoubtedly, there is real demand for homes abroad, but this type of behavior is not normal. It is the hallmark of an inflation.

Indications from China show this inflation may be coming to an end. An early report on May home prices in China slipped in May for the first time in two years:

China’s housing prices fell in May for the first time in nearly two years, as fresh data indicate more cities with price declines and weaker sales.

Average new-home prices fell 0.3% in May from April, a turnaround from the 0.1% monthly gain recorded for April and the first decline since June 2012, data provider China Real Estate Index System said.

And from Ifeng, Beijing home sales fell in May:

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The table shows that existing home sales (top table) fell 9% mom in May, and the average price fell 5.52%. (Data is from the Beijing Municipal Construction Committee.) Prices are fairly steady from January, down only 1%, but the bounce from March and April is now gone.

The bottom table shows new home data from March through May. The first row of numbers are advanced sales of unfinished homes, the second row finished new homes, the third row the combined data.

New homes sales were down slightly from May, but the price actually rebounded 6%. All of these numbers are volatile month to month, but new homes that are ready to live in should have stronger demand due to end user demand. It is the advance sales that are the playground of speculators. Unfinished home sales fell 15.7% from April and prices fell 3.3%. In total, sales of new homes fell 12.4% and prices fell 0.8%.

On the supply side, in May, 37 new projects were scheduled to come onto the market. In the past 20 days, inventory climbed nearly 6000 units, or more than 8%, to more than 76,000 homes.The months of inventory number is volatile due to large numbers of new homes coming to market and rapidly slowing sales. Were home sales to return to January levels, there’s about 11 months of new home supply in the Beijing market. If June sales are worse than May’s, Beijing could see its months of inventory jump to 14 or even 16 months.
Finally today and also from Ifeng, a number of reasons are listed for why Chinese banks have curtailed mortgage lending. One is rising costs that are being passed on to mortgage borrowers. Another is competition from Internet banking that’s pushing up deposit rates. Due to the rising costs, one mid-sized bank president went so far as to say doing mortgages is basically volunteer work. Due to the 20% reserve requirement, in order to meet the market’s 5% deposit rate on interest, banks need to charge [5% / 0.8] or 6.25% interest, close to the 6.55% benchmark rate for intermediate/long-term loans.

The second effect is loan quotas. Banks rush to lend at the start of the year and then many run out of their quote by November or December. Banks are making loans to customers who applied in 2013, which is eating up the lending quotas for 2014.Banks are also worried about the devaluation of collateral. Banks notice that home prices are tied to non-performing loan rates (NPLs) and they are conducting repeated stress tests.
Alarms are going off about the Wenzhou “jingle mail” situation as well, where homeowners have given the house back to the bank. Banks are seeing collateral auctions go poorly, with second round bids 20% below the first, and third round bids 20% below the second.

Eventually, the trend we are seeing in China will spread overseas and the all-cash buyers paying far above asking prices will disappear as quickly as they arrived.

Comments

  1. bskerr2MEMBER

    If there is a China bust, will this also wipe out the NZ property market ?

    I would have thought that we are all in this Bermuda triangle, China, NZ and Oz.

    When Oz goes through it’s bubble crash, exports etc.. from NZ will drop off to that country. But we seem less dependent on mineral export, though I don’t believe that will safe us over here anyhow because of other complex trade arrangements.

    My question, if Oz and China property take a hit, what happens to NZ ?

    • casewithscience

      Oz is the least susceptible of the three (ironically). We are fat enough that a few less buyers will be replaced quickly at similar, but slightly lower, prices.

      New Zealand doesn’t have the same volume of first home buyers to collect the drop off from foreign investors reducing their involvement in the market so when their bubble pops (noting the recent effects of interest rate hikes), it would pop stronger.

      China is just buggered. Unless chinese workers are suddenly presented with lower interest rates (from 8-11% down) and massive wage increases, they just won’t have internal demand sufficient to purchase the properties that are currently drowning developers. Foreign investment is problematic too – would you want to invest in a Chinese McMansion that will never be rentable for return? Could you even get past the Chinese property monitors? Would you risk a trust asset in China?

      Just my view.

      • I’m sorry but we can’t say we know the impact of Chinese Investors exiting the Australian property market because we are not gathering reliable data on it.

        We can’t have it both ways.

    • Chinese buying has driven Auckland prices in the same way as Vancouver, Sydney, Melbourne, London, HK, Singapore, San Fransisco…

      NZ will be his very hard especially Auckland. It is part of the same global story.

      BUT the story isn’t over yet. Monetary easing is underway and there may be another bounce in prices yet.

      • Suspect you’re right on the bounce.

        That leads to the next question of why can’t prices just boom forever?

        Why have those in the past failed to protect asset prices (Gr8 depression, GFC etc) by not simply printing to infinite?

      • @jimbo

        no reason why they couldn’t have done that back then…its just that the politicians/regulators decided not to perhaps because of differing ideology, or perhaps because they were less compromised than their modern counterparts

  2. There is a potential mitigating factor for the Chinese, if they are playing their cards right.

    The gains from their property bubble have mostly been captured by government in land sales revenue, not the private sector rentiers as in western economies.

    Secondly, they may well simply allow institutions to fail and specufestors to lose their shirts so that everyone is sadder and wiser from now on. A huge Iceland, so to speak. No bailouts, no millstone around taxpayer’s necks for a decade or more, and no moral hazard going forward.

    • The problem may be that the specufestors are the ones running the place.

      Having driven so many expensive imported resources into fixed assets they will need all their spin doctors (and dudes with guns) working over time to save CCP face, if the value of those assets fall significantly.

      • I don’t think the specufestors that are among the ranks of the CCP are the ones calling the shots, I think they risk being purged. Of course a lot of them are bailing out to Vancouver and Sydney and LA and Auckland.

        Of course the people most affected will be the legions of middle class investors with a couple of apartments each. I see the prices they have paid as merely a de facto tax that has gone to the government anyway in planning gain. I suspect there are smart people in the CCP who have also seen it this way all along. Kind of “using capitalism against itself”.

        A crash will result in systemically affordable housing for the millions of proles currently priced out of formal housing in the cities. This too could be a deliberate policy objective. Using a speculative boom to fund as much growth as possible means that the longer it takes to pop, the more affordable housing there will ultimately be. I see no other reason for keeping it going so long, seemingly so obviously insane with so much ghost stock.

      • While anything is possible in the middle Kingdom I think you might be attributing a bit too much management skill to the CCP. It doesn’t exactly look well managed so far – assuming a historic credit bubble is not considered good management.

        “I don’t think the specufestors that are among the ranks of the CCP are the ones calling the shots.”

        Perhaps, but then a lot of angry home owners/specufestors may find firing shots can be just as effective as calling the shots.

        If it gets to the point that the party is relying on the rural villages to support them in the liquidation of the wealth of the growing middle class we are talking civil war or at the very least major unhappiness for a long time.

        Vietnam may find its northern neighbour a bit frisky in the months ahead.

    • casewithscience

      Those land sale revenues were used to build bridges to nowhere (and some other useful assets).

      Its like ’80s Japan all over again.

    • Correct.

      China is a communist country, people seem to forget this and prefer now to call it a command economy. It’s not, this is a term used by westerners to make them fell more comfortable with the situation. It has allowed capitalism into its economy, to benefit the nation.

      People really, really seem to forget that China is the oldest nation on earth, accumulatively it is ten, maybe a hundred times more powerful than any other nation in history. It is, accumulatively, the greatest nation that has ever existed.

      A hundred years under the yoke of the west is nothing when you consider China had been a thriving civilisation for several thousand years before England even had London.

      Westerners have short memories. Chinese, not so much.

      • casewithscience

        On most definitions of “civilisation”, China is nowhere near the oldest civilisation on the planet. That is an historical misrepresentation arising from westerners making their first sustained contact during the Song dynasty in the 14th and 15th centuries, when China was at its height (which it would not again reach until the late 19th century in terms of standard of living, assisted by Western technology).

        Organised and structured government began in the hilly flanks (Mesopotamia) in the fourth millenium BC (ie where agriculture started) long before it did in the Chinese river deltas, in the second millenium BC. Also, the “Western” empire of, you know, Rome had the same standard of living in the 2nd century AD as it would take the Chinese until the 14th century AD to reach.

        The fact is, if it hadn’t been for the Christians and the dark ages, the west would have been in front of the Chinese the whole time. As it was, the 8 centuries of post-Christian influence meant that the Chinese caught up, but were subsequently overtaken in the 16th century (because of Western expansion and Chinese in-fighting).

        Please remove the “Red” rose coloured glasses. China’s history is bloody and political, like everywhere else. They have had no harmonious and glorious past as is often misleadingly presented.

  3. The Patrician

    Australia has a regulator specifically tasked with preventing the destructive distortions of the above-described foreign cash flows into existing Australian housing .

    It is called the FIRB.

    It has repeatedly failed to do its job.

    On Friday current FIRB chairman Brian Wilson revealed himself as incompetent (at best).

    Sack Brian Wilson. Appoint an FIRB Chairman that will enforce its laws.

    .

      • The Patrician

        Thanks Mav.

        Does anyone know if there will be any more public hearing days?

        The membership of the committee for those motivated to contact their local member
        Chair
        Ms Kelly O’Dwyer MP
        Liberal Party of Australia , Higgins VIC

        Deputy Chair
        The Hon Ed Husic MP
        Australian Labor Party , Chifley NSW

        Mr Scott Buchholz MP
        Liberal Party of Australia , Wright QLD

        Dr Jim Chalmers MP
        Australian Labor Party , Rankin QLD

        Mr David Coleman MP
        Liberal Party of Australia , Banks NSW

        Mr Pat Conroy MP
        Australian Labor Party , Charlton NSW

        Dr Peter Hendy MP
        Liberal Party of Australia , Eden-Monaro NSW

        Mr Kevin Hogan MP
        The Nationals , Page NSW

        Mr Craig Kelly MP
        Liberal Party of Australia , Hughes NSW

        Mr Clive Palmer MP
        Palmer United Party , Fairfax QLD

      • May need to request it under FOI, otherwise email them a reminder that the public will notice this issue with transparency.

      • Ms O Dywer discusses the committee on ABC Melbourne. Fascinating response to the first caller who had the overwhelming common sense to suggest that laws for property investment by overseas residents should be very simple. We can not invest in their countries, they can not invest in ours. According to Ms O’Dwyer such a simple ground rule would be incredibly complicated to implement. https://www.youtube.com/watch?v=Q1a9JXMzLsY

      • We can invest in the US and probably the UK and NZ and the like.

        But we should definitely be blocking the Chinese and anyone who doesn’t reciprocate.

        I don’t know why you lot bother. SPP is your only hope.

      • The Patrician

        Thanks astrolin

        I liked the last caller. Sold an existing dwelling to 12 non-resident foreigners all listed on the sale documents. O’Dwyers response “that can’t happen, they are not able to do it”
        This is the heart of the problem. The can do it. They are doing it. They did it.

        There is nothing stopping a foreign national buying an existing dwelling anywhere in this country without FIRB approval. Nothing. Nada. Zilch.

        The FIRB in association with the FIRE lobby have created a myth of FI regulation and have succeeded in fooling just about every one.

        There is no regulation without proof the purchasers residency status/FIRB approval required on the transfer of title documents.

        Wait for the screams from the FIRE lobby if this is even mentioned.

    • @Patrician,

      Call me crazy, but I suspect that preventing foreign buyers pushing up property prices by finding and prosecuting foreign buyers who break the rules isn’t part of the job description written by Wilson’s political masters.

      • The Patrician

        I suggest you read the Foreign Aquisitions and Takeovers Act 1975, The Foreign Acquisitions and Takeovers Regulations 1989 and the roles, responsibilities and directives of the FIRB, specifically that its role is to

        “monitor and ensure compliance with the Policy and the Act;”

      • While that is certainly correct, Wilson is currently in the middle of a public performance appraisal. From the part that I have seen, those doing the appraisal (you’ve put their names above) did not interpret ‘no prosecutions’ in this area as a sign of failure.

        Elsewhere it has been noted that he doesn’t exactly have an army at his disposal to audit and check purchases, again consistent with a certain lack of will.

        Finally, the words you have quoted ‘monitor and ensure compliance’ are entirely consistent with the board’s approach as stated by Wilson of passively watching from the sidelines (‘monitoring’) and occasionally asking someone nicely to dot a couple of i’s (ensurre compliance)

        I maintain that the lack of actual achievement is in no way a sign that Wilson is failing to do the job his supervisors want him to do.

      • The Patrician

        Wilson’s stated role as chair of the FIRB is to ensure compliance with the Act and the policy.

        Provisions of the Act, the regulations and/or the policy are being breached on a daily basis.

        Wilson has been a member of the board or chair for nearly five years. In that time there has not been one prosecution commenced, let alone a successful conviction.

        Wilson has demonstrated over an extended period that he is incapable of fulfilling his stated role.

        Sack him.

      • Agree he is ineffective at his job, and ought to be replaced.

        Maintain that there are people above him who are clearly very comfortable with his level of performance. Sacking him without replacing those people will accomplish nothing, especially as the same group who hired him will find his replacement.

        If an employee underpeforms, obviously the fault lies with them, but if the underperformance continues over five years, and is actually rewarded with a promotion (from Board Member to Chairman), the fault is far bigger than the employee.

        In particular, the act and regulations are clear in assigning responsibility to act to the Treasurer, and the FIRB’s self-published job description states
        ‘The Board’s functions are advisory only. Responsibility for making decisions on the Policy and proposals rests with the Treasurer.’

        The arse you are looking for (kicking, for the purpose of) belongs to Martin Parkinson, the public service head of Treasury the bulk of Wilson’s tenure with the FIRB. In turn, if Parkinson fails, then Mr Hockey is the man.

  4. Isn’t the Oz market still a safe haven? The houses they buy here are guaranteed not to depreciate courtesy of the Australian taxpayer. I expect the influx to continue unabated or even intensify. Is this the money borrowed from Chinese banks or from far more dubious sources.

    • The ones in the know got out 6-12 months ago, hence the big influx in foreign buyers reported here. If the China bust continues, we should see a tapering over time of cash purchases.

      Just my 2c

      • ff,

        The data on this stuff is terrible – foreign cash buyers were undectable in the statistics long after they were noticeable on the ground. No doubt it will just as difficult to detect their absence – maybe they’ve already started leaving…

  5. New spambot message “You have been blocked”???

    Well that posted….Is there some new content filter?

    • I really do wish that the spam filter wasn’t such a black box and we could know more details about what is likely to trigger it.

      Why on earth it can’t take in to account the age of an account or the number of posts is beyond my comprehension.

  6. Strange Economics

    If the foreign money flow slows this helps with the top end properties, but the new rules on SMSFs is encouraging another 500,000 investment buyers for used apartments. And council policies for Nimby neighbourhood zones preventing new supply in the inner suburbs for families.
    Only the falling yields as rents (following wages) drop from govt policies at the low end, and 457 workers on lower salaries in the middle, and then a rate rise will make them sell off.

  7. Blocked comment re how pensions flow through the economy but the economy and employment has a different structure compared with an economy/society where income goes to the wealth and they crowd others out of asset purchases like first homes.

    Not willing to invest the time and be blocked again.

    (Sighs of relief all around!)

  8. “”In the 1970s, inflation caused oil prices to surge and the U.S. government instituted price controls, which led to gasoline shortages.””

    Gee, there was my history telling me that oil prices surged in the 70s because of the OPEC cartel and the negative reaction of the Arab world to western support for Israel in the 1973 war…………………
    Now I learn that oil prices surged because of inflation. Inflation apparently did not surge because of heightened oil prices which my memory tells me quadrupled after 1973. I know there was inflation around in the early 70s, following America’s current account deficit incurred from the Vietnam War. But I thought the real whammy was the OPEC oil embargo which led to rampant inflation. Not inflation leading to surging oil prices.