How Big Is the Chinese Property Bubble?

| About: Guggenheim China (TAO)

In times of crisis alternative economic models become more appealing. Since the USA, the beacon of capitalism was the epicentre for the current crisis and the Chinese economy escaped relatively unharmed, there is a certain logic in asserting that the central planners in China have the right economic prescription.

But as James Chanos and others have pointed out, centrally planned economies lead to malinvestment and nowhere is that malinvestment more manifest than in China’s Property market. Consider John Mauldin’s November 24th, Outside the box interview with Vitaliy Katsenelson. Katsenelson compares Japan’s property bubble of the late 1980′s to modern day China and the results aren’t pretty, from the article:

VK:In the same way that everyone in the United States decided they “must” own a house, this belief was reinforced by continuously rising house prices. You can see how big a problem this became in big cities such as Beijing and Shanghai where the affordability ratio is horrible, so the property-value-to-income ratio in Beijing is pushing 15. In Shanghai it is over 12. If you look at the national average, it is over eight times.

TCR: Can you explain that ratio to our readers?

VK: You get the ratio by taking the property value and dividing it by annual disposable income.

Basically, if you spent all your money, after you paid your taxes, just to pay off the mortgage, it would take you 14 years – which means you didn’t pay for food, electricity, etc.

This ratio is important because it helps put the scale of the Chinese real estate bubble in its proper context. In Tokyo, at the peak of the massive Japanese bubble, the ratio stood at nine times. In Beijing it’s already 14 times. In Shanghai it’s over 12 times. The national average for China is pushing 8.2 times right now. So housing affordability is very, very low, and the housing prices are extremely high.

Here is another interesting piece of data: property investment in China in 2009 was 10% of GDP, up from 8% in 2007. In Japan, at the peak of its bubble, it did not exceed 9%; in the U.S. it never exceeded 6%.

A recent study found that 64.5 million apartments basically don’t use electricity because they are empty. Chinese people buy those condos, and they don’t rent them. Similar to new cars in the U.S. when taken off the lot, in China an apartment is worth less once rented out. So they just keep them unoccupied with the hope to flip them, and you know how that story ends.

If those numbers don’t scare you at least a bit I don’t know what would. As usual, the identifcation of the bubble is not the hardest part, it’s the timing of the pop. Bubbles have a habit of going on a lot longer than most think they can and given the political pressure to keep it going and the financial resources available to the central planners, this bubble may have a way to go yet.

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