Another realty boom not needed

Updated: 2012-08-29 07:27

By Mark Williams (China Daily)

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Another realty boom not needed

These have been a few disappointing months for anyone watching China's economy. The general view at the start of the year was that economic growth was on the point of bottoming out. Instead, the economy continued to slow down in the second quarter. There was still no sign of a rebound in growth in the data for July.

In the meantime, the government has cut interest rates, relaxed constraints on bank lending and approved a host of new infrastructure projects to turn the economy around. But the government has continued to insist that its controls on the property market will remain in place.

Real estate investment remains in the doldrums as a result. In July, developers launched 25 percent fewer projects year-on-year. The contrast with the situation three years ago is stark. A rebound in real estate investment of the scale we saw then would be enough to lift China's growth over the next year by 2 percentage points. If everything else remained the same, this alone would be enough to push GDP growth back above 9 percent.

The failure of the economy to turn around prompts the question: Is a strong economic recovery even possible without strong growth in the real estate sector?

It is hard to overstate the property sector's importance to the wider economy and even to the rest of the world. China has built more than 90 million properties in the past 15 years, enough to house the combined populations of Germany, France and the United Kingdom. Along the way, construction activity has boosted economic growth and been a key source of jobs for migrant workers. When exporters were struggling in 2009, the surge in construction provided alternative work for millions of people who were laid off.

The effects are felt more widely. Strong growth in property construction and sales promotes investment in related industries producing building materials and the furniture and appliances that ultimately furnish new homes. When these secondary effects are added in, the property sector last year drove about 10 percent of all spending in the economy.

The impact doesn't end there. Construction activity has fuelled booms in commodity-producing economies around the world. For example, the property sector, along with China's infrastructure industry, accounts for one-fourth of the global steel demand.

The upshot is that, with weak global demand weighing on its economy, a return to rapid economic growth by China is extremely unlikely as long as the property sector is struggling.

To be fair, government controls are not the only factor holding the sector back. Although sentiment seems to have improved recently and sales have picked up, developers' inventories have continued to rise. Roughly 2 million properties were awaiting sale at the end of July and a further 30 million are under construction. That is enough to meet the residential property demand for the next three or four years.

In these circumstances, only the bravest developers will embark on a large number of major new projects. In other words, a property sector rebound seems unlikely, and so a sluggish economic recovery looks the most probable scenario whatever the government now decides.

In fact, a sluggish recovery may be the ideal outcome. China is a long way short of building all the property it will need to house a growing urban population over the next decade. But the pace at which the sector has grown has been unsustainable: Urban residential real estate investment accounts for double the share of total spending in the economy than it did a decade ago. A period of below-trend growth is needed to put the sector back on a sustainable path.

If that means the economy ends up growing much slower than China has been used to, it would be something worth putting up with. Another wave of property investment would bring short-term benefits. But it would leave China with an even bigger glut of unsold properties and result in an even bigger economic downturn a few years down the line.

These challenges are not unique to the property sector. The investment boom of 2008 and 2009 was felt across the economy. There was a surge of investment into the auto sector too, for example.

As with property, optimists could point to projections showing that China's car demand was likely to surge in the future. China's car output doubled in the space of two years. However, despite government incentives for car purchases, sales couldn't keep pace. Car manufacturers have been forced to slash prices to attract customers - discounts of 20-30 percent are available on popular models - but many are still struggling. The result is likely to be a wave of consolidation as production lines are halted and car producers merge or close down.

An economic rebound driven by another wave of investment would raise the risk of the auto sector's problems spreading to other parts of industry. But, given the sector's importance both to China and the world, the most dangerous form of economic rebound would be one led by investment in residential property.

The author is chief Asia economist at Capital Economics, an independent, global macro-economic consultancy.