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Saturday, April 03, 2010 12:10 PM

Email from a Chinese on China's Real Estate Bubble

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In response to 10 Signs of Speculative Mania in China "Panda" a Chinese, commented on the real estate bubble in China.

Panda Writes:

I am from China and I am shocked by the real estate bubble in China. Housing in China now is more expensive than in the US, while salaries are way lower than in the US. Housing is out of reach for most wage earners, and more than 80% people in the past year bought houses as an investment.

The common belief is that Government will not let housing prices fall and that the supply of housing is too limited especially in Shanghai and Beijing for prices to fall. Does this sound familiar?

I am one of the few Chinese who believe the China housing price will crash, soon and hard.
I asked Panda for more details and in a followup Email Panda offered ......
Hi, Mish:

I would very much like to share my view of China real estate bubble with you. Also please bear in mind China does not have property tax now. There is talk about it, but no plan right now.

First, please let me introduce myself.

I was born in China, and got my Bachelor degree from Beijing University in 1999. Then, I went to Princeton University and got my Phd in Computer Engineering in 2004. After that, I have been working at an IT company in bay area.

Even though I have been living out of China for more than 10 years, I visit China regularly and contact my family on a weekly basis. Hence, I have a good understanding of what is going on in China, and in US.

The real estate bubble in China is enormous, and even out of the control of government. Here are a few questions and answers.

1. How big is the real estate bubble?

My home town is a second tier city with a population of around 1 million. The average wage in the city is around $3500/year. Housing costs around $90/sq-feet for a condo or apartment. You don't have much land for your home, and for even the small land belonging to you, you are only authorized to use it for 70 years. The obvious question is what will happen after 70 years? It seems that nobody really cares: 70 years ago, China was fighting the invasion of Japan in world war II. God only knows what will happen 70 years in the future. And given the quality of the buildings, it is questionable whether or not the building can last 70 years anyway.

The average apartment (1000 sq feet) will cost $90,000. This comparable with US condo prices in a second tier city. The price/income ratio is 25.7 for a single buyer! Even with a two-wage-earner family, the ratio is larger than 10.

For Beijing and Shanghai, housing is much more expensive. In Shanghai for example, the price for decent area is around 30000-Yuan/sq-meter, i.e., around $440/sq-feet. And yes, they are only condos/apartments. Hence, a 1000sq feet apartment will cost around $440,000. Yet the average college graduate earns only $5500/year.

How can they afford it? Short answer is they cannot. For the few who managed to buy in recent years, they dipped into the life-time savings of their parents, or even grandparents. One house deprived several generation's wealth in this case.

2. How did this happen?

The most important reason is the local governments. They heavily rely on the sale of real estate for their wasteful spending. During boom times, they get huge amounts of money for selling the land, and thus increase government employee's wages and compensations. It is to their benefit to have a huge housing bubble, and they do everything they can to sustain the bubble.

Another important reason is the government-controlled companies. These companies are a monopoly in China, and can easily get money from state-owned banks. They co-operate with local governments to propel the housing price up. These companies buy land from local governments at an insane price with the money borrowed from state-controlled banks.

The state controlled banks do not care about the risk taking. If the money lent cannot be paid back, the central bank will just print money to clean the balance sheets of the state-owned banks. China did that in the 90s, and they will do it again.

Construction companies also plays a role. They get easy money from banks, and earn a fortune by selling over-priced housing to people.

Thus, the bubble is a result of corruption among local governments, banks, construction companies, combined with Chinese tradition. Lastly, please note the Chinese mindset. Chinese people love to buy houses. In the cities, it is often a prerequisite for a Chinese man to buy a house before marrying a Chinese woman.

3. What will happen?

When I visited my hometown in 2009, I drove around many empty buildings, which are completely dark at night, and could not help thinking how can this possibly end well. The bubble will burst. Government will print money to bail out banks.

4. What will happen to China as a whole?

On one hand, Chinese people are smart and hard working. And they all believe there will be a bright future for them. On the other hand, look at the huge bubble. How can it possibly end well?

If China has very bright future if it can learn from this. Right now, however, my take is that in short term, China is likely to experience a depression.

Thanks for sharing "Panda"!

Mike "Mish" Shedlock
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