Softer Landing For China's Fixed Asset Bubble Than Many Believe

by: Nuhi Bunyak

In Western media one reads many articles on the major correction that's waiting to happen to China's economy. China bears like Jim Chanos, Andy Xie and many others prophesy the burst of the real estate bubble resulting in a hard landing. Exports will collapse and in the wake of those events they predict catastrophic social turmoil as the Chinese will rise to freedom. Here is some anecdotal evidence that counters those views.

In a recent publication (China's landing – soft not hard) well-known China bull Stephen S. Roach states that many of the currently empty real estate developments in China will fill up over the coming years, as do others – for instance, Frank Holmes (China Bull Still Runs Strong Even If Slower). Demographic and other data suggests that China's growth potential is by far not depleted yet and that the demand for property will keep increasing. I believe they're right. Some critiques ask how China's poor will ever be able to afford “the $250,000 properties in Shanghai.” True, they will not. But a lot of the real estate that's been built is not in Shanghai and doesn't cost a fortune.

I myself am living in one of those developments in a small town in rural Yunnan province. My rent is 1,100 RMB a month for a three bedroom, two bathroom 138m2 apartment. My landlady owns three of those and she seems quite content with her results. This level of rent is nowadays within reach for quite many Chinese families in rural areas. An average paycheck for unskilled labour yields 1,000 RMB per month around here, which means that even people who earn an average unskilled labour paycheck and live in a family of five working people, not uncommon down here, are able to live in these compounds. Let alone people with an education and professional skills.

Furthermore, I've seen for myself that one of the many “ghost towns” now starts to buzz with life. Chenggong is near Kunming and was empty two years ago when it starred in a lengthy feature in The Financial Times about the Chinese real estate bubble that was going to pop in 2010 according to, amongst others, Andy Xie (quoted here). He has since altered his prediction about the bubble popping. Several provincial government offices and a university have since moved to Chenggong from Kunming, lots of small shops have opened and many people live there by now.

When I walk the streets in Yunnan and visit cafes, bars and restaurants, the Chinese people around me are mainly discussing how to spend their money. Which car to buy, will it be an iPhone or a Samsung Galaxy they're going to buy, where to spend their holidays - these are the prevailing topics I overhear. Chinese are flashy with their money. The system of “mian zi” - keeping face - is a strong consumption driver in my view. “Keeping up with the Jones's” is far more prolific in China then anywhere in the West, due to this social behavior. Once you start buying, you have to buy more just to keep up. This view is supported by recent data on the growth of consumer spending as part of total GDP growth. It seems consumer spending is well underway to start outdoing exports and fixed assets investments as a growth-driver.

The cafes, bars and restaurants I mentioned, together with the small family shops and other small businesses everywhere, add to the frailty of the numbers most Western economists are looking at in order to judge events. I believe the size of the Chinese consumer market is vastly understated, since the authorities don't have any measure on this activity. Most of them don't pay taxes and if they do the taxes are a fixed amount and not income related, so most businesses don't report income to anyone. I don't know the methodology behind the Chinese GDP numbers or if and how all that activity is weighed in to the economical data, but my gut feeling says it's wrong and understated, based on historical and empirical data on this issue from other developing countries. This means that fixed asset development and exports as part of GDP are overstated.

Next to that, the recently introduced credit rules to counter speculation – the required downpayment on a second property is now fifty percent, on a third or more one hundred percent – means further support for Goodman's assessment in a recent article on this website (China: Understanding The Nature Of The Bubble) that the Chinese fixed asset bubble is largely cash-driven as opposed to credit-driven. All this supports the view that a landing of the fixed asset bubble will be softer than many believe and will have much less disruptive effects than recent bubbles in the West have had.

As for the social turmoil argument, it seems to me that a lot of the unrest stems from middle income, big city people with too much time on their hands – but who already have too much to lose to really want to jeopardize their futures. Down here, people seem quite content with their government. Their living standard has greatly improved over the last years and will keep on doing so, they believe. Young people are proud of what China has accomplished over the last decade. We, the Western observers, seem to be taken over by the view that freedom - as we define it - is the natural state of affairs and that people who are not living under those conditions will demand them. I believe it is slightly more complicated than that. Seen from my personal perspective, I have not felt more free in my daily life than currently in China. In Europe, more specifically The Netherlands, the government and its regulations are so prolific, people don't even perceive them as hindrances to their freedom to act anymore. It has become such a normal thing to be pestered by government regulations and their effects in the general society, that our definition of freedom has become warped. Regulations on public safety and health have grown to be incredibly invasive limitations on "daily freedom" as I would like to call it. The government tells me where I can and can not smoke a cigarette, how to clean my restaurant, to wear a helmet on a bike, etc. Here in China's south none of that exists. I get to decide. This leads me to believe that a vast majority of the Chinese rural population have no reason to rise to freedom since they already posses the freedom they want. Only a massive economic downturn could change that and in that case, freedom is not what they'll be after.

For all of you who'd like to read what leading academics on China such as Peter Nolan and Kjeld Erik Brødsgaard think about China's near future, get a hold of Charting China's Future : domestic and international challenges, edited by David Shambaugh. It's a collection of essays on different topics – political, economical, social, etc. - brought together in a book, dedicated to professor Robert F. Ash's retirement. The essays in the book are written by people who know what China's about. As opposed to so many in the West who think they do.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.