Bubble trouble? China will not cause a property crisis
08-16-2014
Jim Swanson
When people ask me, as they often still do, whether we will see another devastating market event like the Lehman collapse in our lifetime, the sector causing their anxiety is often property.
That is not illogical, since the problems that took down Lehman Brothers in 2008 originated in a US housing bubble and the collapse had such worldwide effects.
If the housing market is feeling decidedly bubbly, the natural fear is that the wider economy will suffer.
Recently the cause of concern has been China. Two years of surging growth in the property market there has just ended rather abruptly with two months of falling prices. Investors worldwide have started to worry. Is there a property crash on the horizon?
In my opinion, no.
Those whose anxieties are not allayed tend to ask – given China’s importance to the world’s financial markets – will the bursting of a property bubble in the Far East be felt by investors in the west?
Again, I argue no.
There are rational explanations as to why prices in China have surged and why any correction there will be contained.
A confluence of factors contributed to price growth in China’s housing in recent years. First, the population’s wealth has increased as a result of better wages, increasing their appetite for home ownership. Chinese investors have shown a keen interest in the sector. And the government has invested considerably to make housing affordable. The resultant flurry of activity from eager property developers has led to oversupply and, recently, depressed prices.
Those who therefore fear a global crisis should examine the figures.
Mortgage debt to GDP in China has risen, but is still below one third of the level of mortgage debt to GDP that was reached in the US during the 2008 crisis. And while house prices in China have risen dramatically in the past several years, wages in China have risen by nearly 370%. By contrast, house prices in the US from 2005 to 2007 were dramatically in excess of increases in family income.
The Chinese government, unlike others elsewhere, including the UK, is making concerted efforts to contain any bubble, not only to ensure affordability for its people but to safeguard the banking sector.
The last thing the Chinese government wants to see is the devastation of the banks, given that most are government-controlled.
So it is highly unlikely there will be a severe retraction in lending to individuals or corporates.
A buyer of residential property is required to make a hefty deposit, so the ratio of mortgage debt to property value is much lower than in the heady days of western housing excess, and there are restrictions on purchases of multiple homes.
There are risks to homeowners in China as house prices fall, but the systemic risk to the world financial system does not seem imminent and is not on a scale comparable with the Lehman crisis of 2008.
On the commercial property side, office and retail space is being sustained by those businesses whose consumers have money to spend. We are talking about the world’s second-largest consumer economy, after all.
Certainly, there is excess capacity in the market, with a glut of empty housing in less populated areas while overcrowding persists in urban hotspots. But this is not enough to derail the large developers, which have manageable debt levels, while government assistance for inner city construction will mean that the cranes will not disappear from the skyline for some time yet.
Let us not forget that we have been here before – market commentators last proclaimed the popping of the China property bubble in 2009. In 2014, the critical number is the ratio of property value to purchasers’ income. That is in line. There is plenty of slack to allow for a moderation in China’s housing market, without global economic repercussions.
What we are talking about, therefore, is a slight correction, not a severe downturn or collapse akin to 2008. Back to those bubbles: a slow deflation, not a quick explosion.
Jim Swanson is chief investment strategist at MFS Investment Management