China’s real estate industry has been off the rails and heading towards the cliff.
The world’s second-largest economy has garnered attention for its weakening property sector and subdued external demand. The International Monetary Fund, in a press release, said that global GDP growth could slow down to 4.6% in 2024 and called out China’s real estate crisis as a huge reason for that.
On one side, few economists are hoping for a silver lining in the housing market of the US, whereas on the flip side, real estate brokers point out the implications of the slowdown in the revenue collections of US multinational companies.
Once called the powerhouse of the Chinese economy, the real estate sector accounted for 30% of the country’s GDP but was turned down by the reforms introduced by the Chinese government. Those were the “three red-line” metrics that imposed caps on debt-to-cash, debt-to-assets and debt-to-equity ratios and demanded more transparency from the property developers for their debts.
While the policies were designed to encourage home ownership sentiments, the amendments unintentionally steered the property sector towards speculation. The entire dynamics took an unexpected turn when the real estate market became reliant on the perception that the government encouraged curb sales, resulting in a steep decline in demand from the masses, leading to a halt in buying and selling activities.
Property sellers caught themselves in a vicious cycle of selling properties before project completion to fund ongoing projects. This created a huge bubble, more like a Ponzi scheme, prompting empty apartments and plunging prices. The fallout, thus, resulted in a financial crunch for the highly leveraged property companies.
According to S&P, an estimated 2 million homes remain unfinished, and citizens who had paid for a house were unable to move into it. A country where protests are rare has seen angry buyers rage like wildfire towards the property holders. Goldman Sachs predicted that China's annual urban housing demand will fall to 9 million by 2030, peaking at 18 million in 2017.
″It’s important to recognize that there is a longer-term challenge here, and that is we essentially have too large a construction sector in China, we have too large a real estate sector because underlying demand for apartments is declining,” said Frederic Neumann, HSBC chief Asia economist, in an interview with CNBC. “We have slowing urbanization. We have declining demographics.”
Earlier this year, the story of Evergrande’s massive default and Country Garden’s failure hit the news. The latest development of fraud allegations by Evergrande executives will further destabilize the real estate sector, adding more challenges to the already dwindling Chinese economy.
Bryan Gorrita, a real estate broker, says the escalating youth unemployment rate, currently hovering around 21%, is further compounding China’s economic woes. “The government's reluctance to disclose these alarming figures only fuels concerns about the nation's economic trajectory”.
“This predicament poses far-reaching consequences, not just for China but also for the U.S. Many multinational corporations such as Amazon, Starbucks, and Tesla derive a substantial portion of their revenue from China. If these companies witness a sharp decline in their earnings due to the Chinese economic downturn, the U.S. workforce might bear the brunt as these conglomerates seek to safeguard their profits by resorting to layoffs. Such a scenario could lead to a drastic increase in the unemployment rate, which currently sits at 3.5% nationally”.
China's economic downturn, multinational corporations' declining revenues, and restrictive lending practices, if compounded, might help the U.S. housing market to rise exponentially.
Vince O’Neill, the chief economist of Plunk, provided his analysis, saying that “In the 12 months leading up to March 2023, Chinese spending on U.S. residential real estate more than doubled, compared to the previous year.". Thus, even bad news often has a silver lining.
With the decline of the Chinese real estate market, the U.S. residential market has become primarily a safer spot for investments. “This capital flow will tend to push down mortgage rates, potentially providing some relief from one of the biggest factors holding the US real estate market back from a full recovery," says Niell.
“This indicates that the U.S. market is viewed as a safe harbour by those in China with capital. Not only are they seeking safer investments, but the continued devaluation of the yuan makes dollar-denominated assets more attractive.”.
The Federal Reserve has voiced concerns about the cascading effects arising from China’s economic downfall. Should these situations escalate marginally, the Federal Reserve may choose to reverse the increased rate of interest. Irrespective of the Fed's course of action, any significant surge in real estate investment from China or any other nation is supposed to exert downward pressure on interest rates.
Edited by - Shawn
Image Source - Wikimedia