China’s property market woes will cut approximately 1.5 percentage points off the nation’s GDP growth, leading to “subpar rates” for at least six years, Alicia Garcia-Herrero, Asia Pacific chief economist of Natixis, told FinanceAsia.
Country Garden, China’s biggest developer by sales, is on the brink of default, having narrowly made a payment on its foreign debt this month. Meanwhile, China Evergrande Group – formerly the biggest property developer in the market, filed for US bankruptcy protections in August.
Real estate and its associated industries — such as steel and cement production, as well as household appliances — represent nearly half of China’s gross domestic product (GDP), Derrick Yip, managing director of CDL Investments, a Hong Kong property services firm, told FA.
“No question, the real estate market is one of the most influential sectors for its contribution of GDP to China’s economy,” he said.
Currently, the total value of China's property market is “extraordinarily high” at about 300 percent of GDP, Michael Pettis, professor of finance at Peking University’s Guanghua School of Management, explained.
“Only Japan had a higher ratio before the crash of the Japanese property bubble in 1991,” he told FA, noting that around the time of the Global Financial Crisis (GFC) in 2007-8, the US property market accounted for 140% of domestic GDP before its subsequent crash.
“A difficult landing for China's property market is inevitable,” Pettis added.
Running out of money
“Property sector and local government financing vehicle (LGFV) risks are becoming more prominent in China,” detailed a report published by Fitch Ratings, last month.
From February to July this year, the international rating agency downgraded 19 Chinese property developers and gave a negative outlook to another 17. In total, it only upgraded the ratings of three developers, giving a “positive outlook” to just another three. This was exemplified by the fact that new-home sales in China fell considerably in June and July, reversing the four-month rebound witnessed earlier this year, the report noted.
Declining margins and soft sales will continue to hit Chinese property developers' earnings over 2023 and 2024, warned an S&P Global report on September 4.
Although China’s property troubles have mainly affected private developers so far, negative repercussions are starting to ripple across the market’s state-owned enterprises – in what ostensibly could be a harbinger for market-wide disaster,
Garcia-Herrero noted that lending from state-owned banks to state-owned developers had increased from 65 to 85 percent in recent months. “If the state-owned developers cannot sell enough units, it will drag down the local governments' debt further. This is a big risk.”
Indeed, the property market’s decline has intensified the pressure endured by local fiscal revenues, Rhodium Group research analysts, Rogan Quinn and Logan Wright wrote at the end of August.
“China’s land revenues fell by RMB2 trillion ($274 billion) in 2022 and are on pace to decline by a further RMB1.4 trillion in 2023”.
"China's fiscal capacity is now very limited, because Beijing’s tax system is dependent upon an investment-led growth model that is ending… Restructuring China’s fiscal system is essential, but likely involves new taxes, including levies on households and consumers,” their report underlined.
Silver lining?
However, in spite of the perceived gloom, Yip remains positive about a possible turnaround, in light of new central government policy.
On August 25, the Ministry of Housing and Urban-Rural Development, the People’s Bank of China (PBOC) and National Administration of Financial Regulation (NAFR) issued a notice allowing households with no property-owning residents to be regarded as first-time homebuyers, enabling them to take advantage of cheaper mortgage rates.
The Fitch team expects “greater inter-governmental coordination” from China to help to resolve the crisis, with provincial governments taking the lead, while a report by Allianz Global Investors expects government resources to be mobilised to prevent an extreme downturn.
“Over the last two years, a number of concrete initiatives have been implemented to boost the ailing sector, such as lower mortgage rates, the easing of previous curbs on property transactions, and direct financing support for developers. As such, our view on the possibility of a major systemic risk to the overall economy remains low.”
The question around the outlook for China’s medium to longer term, the report proposed, is whether China can reduce its GDP contribution gap between the housing market and other sectors.
A contact from international economic research firm, 13D, told FA that China’s real estate sector is representative of “a classical bear market”.
While there might be some form of rebound over the short term, the road ahead will be strained – especially for the local governments, the source explained.
“Middle to long term, it might be a good thing, especially for domestic consumption – because average households won’t set aside a significant portion of their disposable income for second homes.”
Regardless of how developers and local governments work to address the issue, “direct bailouts from the central government are unlikely”, the Fitch report noted.
