Residents in Tangshan are very familiar with the concept of oversupply. A severe glut in the steel industry has put many jobs at risk in the northeastern Chinese city that counts the metal as one of its primary exports.
But the oversupply garnering attention today in Tangshan is in its property sector. Years of frenzied construction have crowded the city's skyline and, as demand slows, prices for apartments are falling rapidly.
In the past year, the price of new housing in some developments has fallen from around US$1,603 (RMB10,000) per square meter to about US$961.8 (RMB6,000), according to Chinese media reports. For anyone who bought at the height of the market, such a sharp drop in prices is the equivalent of the floor falling from beneath their feet.
Tangshan has vast housing stock, much of which could sit empty for years. Between 2009 and 2012, the city was building about 17.4 million square meters of housing space. Yet at the local rate of consumption, some 1.46 million square meters per year, it would take more than a decade to exhaust this supply.
The problems in Tangshan are extreme; few large cities have experienced such a precipitous drop in prices. However, the challenges facing the city are emblematic of a rapidly shifting national real estate market, one that is feeling the first of many jolts as it transitions away from central control.
As housing stock builds and empty flats begin to weigh on developers' balance sheets, investment into real estate has naturally tapered off. Property investment figures from northeastern China show that home builders have taken provinces on a roller coaster ride of construction in recent years.
In the first quarter of 2012, property investment in Heilongjiang province jumped 157% year-on-year to US$432.7 billion (RMB2.7 trillion). It's as if developers were expecting an influx of people from the surrounding provinces to Heilongjiang to fill the mass of apartments under construction. But at the same time, the neighboring provinces were building just as fast, adding huge numbers of units. Investment in real estate in Jilin province hit 304% year-on-year in the first quarter of 2012.
Talking to journalists in Shanghai in May, independent economist and renown China bear Andy Xie told of trips he'd made to small cities filling with empty apartment buildings. Party bosses would point to nearby cities and say that the residents there all planned to move in to the growing supply of housing. But upon visiting those nearby cities, Xie said he found a similar buildout in homes and the same attitude.
“I go to the next city and the party boss tells me exactly the same story: The people over there are going to come,” he said, drawing laughs from the crowd.
Reality check
This is no joke for developers that need to sell flats to stay solvent. Nor is it a surprise that, as the market cools across the country, spots such as Heilongjiang have been hit painfully hard. After rapid growth in the first half of last year, investment in the province crashed to -4% year-on-year growth in the third quarter. That was a mere taste of things to come. In the first quarter of this year, investment plummeted to about -25%.
These are hard numbers to bear for developers who have for decades relied on the “build-it-and-they-will-come” model. “After all, property investment has grown at around 20% for many years – the worst [China] has been through in the past decade was 16.3% growth in 2012. An outright contraction in this sector is, for some, hard to imagine,” Nomura said in a May report.
Home builders are not the only ones getting jitters. There is a chain of sectors from steel and cement to appliances and furniture that will be hit hard as investment into property slows.
This is the turning point that people have talked about for years. And, unlike the slight downturns in the market in 2008 and 2011, this one isn't the result of central government housing policy.
During the past 10 years, China has issued no less than 43 policies and 179 ministry-level documents aimed at controlling the housing market. Since 2009, the central government has sought to cool the rapid rise in property prices with restrictions on mortgages. Wen Jiabao, the Chinese premier at the time, used to talk of bringing house prices to a “reasonable level. The final such policy was issued in February last year.
Policymakers aren’t leading the slowdown in the market this time. In April, out of the 70 cities routinely surveyed by the National Bureau of Statistics, the prices of new homes in eight cities fell while prices in 18 cities plateaued, adding in the span of just one month 12 new cities where price growth has stopped.
The shift is perhaps the first real market correction the industry has experienced.
Call it a bubble ready to pop, the slow end to a decade of incredible growth or simply a small correction in an otherwise stable market, but it's clear that China has spent too much for too long on residential real estate. Last year, sales of new homes were equal to nearly 12% of China's GDP, according to data compiled by brokerage CLSA, an unprecedented scale of spending in a major economy. That ratio has stood above 10% since 2009.
The closest comparison to this level of spending takes analysts back to the US in 1951. Troops that had recently returned home from World War II flooded the housing market and pushed new residential sales to just under 6% of GDP for one year. The US housing boom in 2005 drove the ratio to about 3.3%. That bubble popped two years later, leading to the global financial crisis.
China hit its peak last year, says CLSA analyst Nicole Wong. By her count, new housing sales’ contribution to GDP will slow to 11% this year and housing sales will decline by 36% through 2020 from 2013 levels.
Market-bottom prices
The free market is a scary place for those accustomed to a government hand in just about everything.
Governments central and local are now backtracking over years’ worth of policy updates, trying to figure out which ones to unwind. It's unlikely the policymakers in Beijing will idly sit by and watch the country's cornerstone market crumble.
On May 13, the People's Bank of China met with many of the country's top banks to promote lending to the people looking to buy – and live in – their first homes. This cohort of buyers represents true, healthy demand for housing as opposed to those who purchase homes as investments. Speculative buying has warped demand and driven the price of housing sky high during the past 10 years, hence Beijing's effort to slow lending to people in the market for a second or third home. The central bank's latest message is that it hopes major lenders will speed up the mortgage approval process for people who intend to use their homes.
If the central government is worried about a slowing property market, local officials must be pale with dread. After all, some analysts think up to 60% of local government revenues come from the one-time fees levied on land transactions. A drop in prices or a slowdown in buying could leave already-cash-strapped cadres high and dry.
That's why local governments are also trying to make it easier for buyers to get loans – some with more foresight than others.
For example, as of May 1, the city of Wuxi in Jiangsu province has granted hukous to migrant workers that buy apartments of at least 60 square meters. The original threshold was 70 square meters. A hukou, China's household registration system, gives rural migrants the same social benefits as urbanites, such as health care and schooling for children. Zhengzhou, a major city in Henan province, may also promise hukous to more homebuyers. Nanning in Guangxi province plans to let more non-local residents buy homes in certain areas.
These are solid bets. While supporting grassroots demand for homes, these governments will also push along the process of urbanization, which in the long term should boost domestic consumption.
Other cities haven't been so particular. One of Tianjin's special economic zones plans to let people buy homes regardless of whether they already own one elsewhere in the city, a pure play to speculators.
Developers are sending their own signals to buyers. Just like in Tangshan, developers around the country are already starting to offer substantial discounts to homebuyers. Even in cities where prices haven't yet stalled, home builders are advertising “special prices.”
The average housing price in the coastal city of Qingdao grew by 0.1% between March and April yet developers there are reportedly offering discounts of up to US$50,000, a substantial reduction in price for homes that sell for around US$170,000.
As developers offer more special deals, the monthly data from the National Bureau of Statistics won't capture these discounts. “ … given that developers tend to keep headline prices stable while offering other discounts, price cuts might already be widespread,” Standard Chartered said in a report in May. Real average prices in some cities could be lower than many are led to believe.
Collapse never felt so good
Is this the beginning of the end? Most analysts say no.
The consensus view is that prices will moderate then stabilize, not implode. Demand in first-tier cities will remain buoyant while prices will decrease in some second- and third-tier cities. The smaller the city, the worse the outlook for developers. Accounting for housing stock in fourth-tier cities is challenging and many analysts suspect severe oversupply in some regions. Small developers in this area may go bankrupt.
The first in what is expected to be a chain of collapses among small home builders happened in late March this year without financial contagion spreading through the banking system.
If prices were to continue to drop, if bigger developers went under and China's property sector collapsed, this isn't necessarily the doomsday scenario many have feared, according to the independent analyst Andy Xie.
Economists worry that a stall in property investment in China would ripple through the economy and leave millions unemployed as companies that cater to the industry feel the impact. Households would also curb their expenditures. Yet, the meteoric rise in prices during the last decade didn't encourage Chinese homeowners to open up their wallets. Xie says. Why then, he asks, would a collapse cause a great contraction in consumer spending?
“China's middle class is just coming out. College grads with five years experience and a relatively high salary still can't afford property,” Xie said. Outrageously high prices have put normal Chinese under great pressure and have actually hurt consumption; rock-bottom prices caused by a housing collapse would stimulate buying by freeing up more of people’s incomes.
An implosion isn't the preferable form of correction in the Chinese housing market. But one way or another, prices must come down.
