Is China’s Economy Hijacked by the Real Estate Industry?

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china’ property bubble attracts capital away from other sectors of the real economy， such as manufacturing and services while sapping consumers of disposable income.

Prosperous Real Estate Industry Swallowing up All Social Capital The frothy real estate market has been siphon- ing capital and resources from other sectors of the real economy， keeping those industries weak and undermining the central bank’s efforts at economic stimulus through loose monetary policies. In some degree， the real estate market has become a “black hole” swallowing up all social capital， especially bank loans.

China’s real estate bubble has greatly weakened loose monetary policies aimed at lowering capital costs. Since September 2014， when the central bank started cutting interest rates， the weighted average interest rate for loans from financial institutions has dropped 1.71 percentage points to 5.26 percent.

During the same period， the average rate for personal mortgages dropped an even-greater 2.41 percentage points to 4.55 percent. But the average rate for general loans， made mostly to enterprises， decreased by a smaller 1.75 percentage points to 5.58 percent. The gap between average interest rates for home mortgages and general loans also widened over that period to 1.03 percentage points， almost triple the previous 0.37 points.

Therefore， although interest rates for general loans are lower， they have decreased far less than that for home mortgages， which means the central bank’s efforts to reduce borrowing costs for enterprises haven’t been as effective as they could have been.

Official data shows the real estate market has actually attracted all recent bank loans. Since March this year， home mortgages outweighed corporate loans every month， breaking the previous record that previously never saw such a trend last longer than three months.

From March to August， new loans to households and individuals amounted to 3.48 trillion yuan （$521 million）. Of that， about 85 percent were medium-term and long-term loans， mainly for home mortgages. And the rest of the loans are mostly new corporate loans， but that part of loan decreased in April， July and August. Those decreases， combined with concurrent sharp rises in mortgage loans， show real estate not only attracted a net increase in bank loans but also replaced some enterprises as recipients of previous lending.

A breakdown of bank loans by borrower type also shows lending to real estate developers grew far more quickly than to other industries. Outstanding loans to developers for land purchases and home building stood at 7.39 trillion yuan at the end of the June， roughly in the same level of outstanding loans to other industries.

At the same time， the amount of outstanding loans to other industries and the service sector grew by 20 percent and 61 percent respectively in the four years through this June. That was far less than the 93 percent growth to real estate developers. What’s more， growth rates for bank loans to other industries and the service sector have been slowing since last year， while property development loans have increased. Clearly， the real estate sector has taken up credit resources that could have been used by other industries and service companies.

A Large Increase in Household Debt

The property bubble has caused a large increase in household debt. The amount of household loans nationwide reached a historic high of 30 trillion yuan at the end of June， equal to a record-breaking 42 percent of China’s GDP. The increase was driven mainly by a nearly one-third surge over the last year in mortgage loans， which grew to 16.55 trillion yuan at the end of June. The ratio of mortgages to total household loans also rose 4.8 percentage points to 55.2 percent during the same period.

The borrowing frenzy has continued well into the third quarter. For example， a research report from Haitong Securities pointed out that the ratio of mortgage payments to the average monthly income of people in China has exceeded the highest records of the United States and Japan when their property markets were in the midst of crisis-brewing bubbles. High mortgage payments also hurt the economy by weakening households’ ability to spend on other items like cars.

The real estate market has not only siphoned capital from other sectors of the economy and hampered the central bank’s efforts to lower borrowing cost for companies， but has also undermined ordinary people’s ability to consume other items. Current conditions make financial institutions inclined to favor mortgage loans and lending to developers.

Growing Concerns over Property Bubble

The past long National Day holiday was a turbulent time for China’s overheated real estate market， as a growing number of cities rolled out new restrictions to cool prices during a time that’s traditionally a prime season for home sales.

The next major signal will come in December at the Central Economic Work Conference， the Communist Party’s top economic agenda-setting meeting， which could set the tone for how Beijing will manage the housing market in the year ahead. That meeting could show how housing inventories will be reduced and could stress more localized policies to squash an asset bubble and channel funds back into the real economy.

So far， cities representing more than half of all home sales in China have announced new home-buying restrictions in a bid to cool the market. Some observers have suggested the latest curbs are localized measures targeting specific markets in which prices have been rising too quickly.

A closer look shows cities issuing new restrictions account for nearly a third of China’s GDP. Those include top cities like Beijing， Shanghai， Shenzhen and Chengdu， which have been hand-picked by the central government for new restrictions due to excessive overheating and suspected hoarding by developers to further boost prices.

The overheating in such major hubs could spill into neighboring cities， ultimately affecting up to 60 percent of home sales nationwide.

Recent restrictions appear to show the housing market has moved up on Beijing’s policy agenda， due to its potential to threaten broader economic security and reform. The weight of new rules has been quite heavy， often exceeding expectation. For example， first-time home buyers in Shenzhen have to make down payments equal to 50 percent of the home’s price， and a second apartment requires an even higher 70 percent. Requirements that home buyers in many markets hold a local household registration， or hukou， will further dampen speculation.

Despite restrictions rolled out in some 20 cities， home sales during the weeklong holiday jumped. In the first six days of October， 2.51 million square meters of apartments were sold， much more than the 1.4 million square meters a year earlier.

Such sharp rises don’t mean new policies are ineffective， since new policies often require time to create an impact. As local governments began to implement the new tougher rules， many home buyers were simply racing to sign contracts while they could.

Unlike conditions during previous housing market curbs， a shortage of land supply for new development is more obvious now. In the first nine months in 2016， the residential land supply in 100 medium and large cities dropped by 10 percent compared with the same period last year.

The drop was even more obvious in China’s megacities such as Shanghai and Beijing， where the land supply dropped by 33 percent and 80 percent respectively.

The contracting new land supply is helping to reduce new apartment inventories. According to a survey of 25 first- and second-tier cities conducted by CRIC， a Chinese property research company， developers in 11 cities can now clear their current stock in less than seven months.

The government should learn from previous experience and increase land supply while taking concurrent measures to curtail speculation. The recent rise of "land kings，" or developers snatching up premium land at sky-high prices， is directly due to a dearth of new land for sale.

Following this logic， we believe new property construction and investment will gain some momentum in the fourth quarter.

The effect on the broader economy caused by homebuying restrictions may take two quarters to become apparent， as weakening home sales start to dampen demand for products from related sectors like home appliances and building materials.

The economy could begin to feel a pinch in next year’s second quarter if home sales start to drop in the next two months， though the hit could be eased if governments boost the supply of new land for development. The Central Economic Work Conference in December is also likely to aim for slower growth next year， as it focuses on stabilizing and restructuring the economy and guarding against risks.

More Options Needed for a Healthy Real Market

Over those years， government real estate policies have flip-flopped between stimulating or restraining the real estate market. When the market has cooled， the government has lifted almost all the restrictions on purchasing properties and when prices have increased too rapidly， it has done the opposite.

Now， with house prices in major cities on a soaring upward trend， the governments in about 20 major cities issued policies in the week around the National Day holiday to set limits on the number of properties a household can purchase and increased the down payments required of homebuyers.

Given the rapid increases in house prices in many of the provincial capital cities and big metropolises such as Beijing， Shanghai and Shenzhen， such moves are more than necessary to cool their housing markets.

House prices have risen by 20 percent in the last six months in some major cities. It is no exaggeration to say that the annual profits of many listed manufacturing companies have not been as much as the cost of an apartment in Beijing， Shanghai or Shenzhen.

Before the new measures， there was no sign that the house prices would return to a reasonable level in the foreseeable future or even stop going up.

The expanding bubble in real estate market has had two consequences-it has made it difficult for many to buy a property， and made all other industries unattractive to investors.

It goes without saying that the real estate market is an important pillar sustaining China’s economic growth. Yet， what has been even more terrifying is the fact that the economy cannot be deemed to be healthy when realty is the sole sustaining engine of the economy.

When house prices continue to increase in a rapid manner and most bank loans have gone to real estate， it is indeed necessary for the government to be cautious lest the economy be hijacked by this single industry.

It seems the government has fallen into a vicious cycle of setting and lifting restrictions on the conditions for the purchasing of properties.

More options such as a property tax are needed to set a healthy and steady track for the development of the real estate market.