Fear empty flats!

作者：謝國忠 | 评论(0) | 标签:谢国忠, 中国经济, 房地产

How many empty flats there are in China has become a hot discussion topic. Lack of transparency in that regard is of grave concern to policymaking. The stock of empty flats is perhaps the most important measurement on how big and serious the property bubble is. The media floated the story that China’s electricity authority reported that 64.5 million urban electricity meters registered zero electricity consumption over the past six months and surmised that China had as many empty flats that could house 200 million people. Another media story reported that the electricity authority denied the figure. Is the sensational number credible? Regardless, obtaining reliable data on the matter should be of the highest priority. Otherwise, national policies could be made in the dark.

Property market could experience both price and quantity bubble. Most property bubbles in modern history are price bubbles. In1980s Tokyo’s property price rose enormously without supply rising in tandem. Hong Kong property market experienced a similar phenomenon in 1990s. Property is prone to price bubble because there are unique factors restricting its supply response.

First, property development is subject to government regulations, especially, in relation to its community. In established communities there are usually regulations restricting building height and density. It is virtually impossible for mature communities to increase supply quickly.

Second, infrastructure development takes time. Land shortage is always relative to infrastructure scarcity. Even in island city like Singapore land could be reclaimed from ocean at low cost. Therefore, land shortage is usually a form of infrastructure shortage. But, infrastructure development is time consuming. When property price is high, even when money is available for infrastructure development, one would be cautious to plunge into it, fearing that, when it is completed, property price would have dropped. Hence, property supply may not respond to price increase even over an extended period of time.

The above two factors explain why property price bubble occurs so frequently and lasts a long time. London’s latest bubble, for example, falls into the category. Tokyo had a price bubble in the 1980s for similar reasons. Both have tight restrictions over building heights. When monetary condition is too easy, the demand for property rises. In a city like London or Tokyo, it could lead to rapid price increase. The momentum then attracts speculative demand. If the monetary condition remains loose, credit can sustain speculative demand.

Hong Kong had a price bubble for a different reason. It doesn’t have height restrictions like London or Tokyo. Nor does it have infrastructure or land shortage. The scarcity before 1997 was due to the government policy to limit supply of land. The catalyst for the price increase was the loose monetary condition that it imported from the US through its currency peg to the dollar. The government didn’t increase supply in response to price. This policy was the fundamental reason for Hong Kong’s price bubble.

Property quantity bubble is rarer than price bubble and not lasting. When supply increases in a quantity bubble, it exerts downward pressure on price. It just requires more money to hold up price when supply is rising. A property quantity bubble is sometimes a construction bubble. It doesn’t last longer than the construction cycle, as the price crashes as soon as the supply is available. The US experienced a commercial property bubble like that in the second half of 1980s. Its bursting triggered a banking crisis.

In the 1990s Southeast Asia experienced a quantity-cum-price bubble that lasted for several years. The aforementioned US bubble triggered a banking crisis. It caused the Fed to keep monetary policy very loose to help the banking system to mend itself. As Southeast Asia pegged its currencies to the dollar, it imported the loose US monetary condition. That fueled its property bubble. With fewer restrictions on urban development rising price led to massive increase in supply. But, as Southeast Asia was quite small relative to the US, the liquidity inflow was sufficient to fuel enough speculative demand. When the US monetary policy tightened, the bubble crashed and triggered the Asian Financial Crisis.

A price bubble can damage an economy in three ways. First, a banking crisis usually occurs. As the market trades at ever higher price, the buyers borrow more against the same property. The banks that maintain the same lending cushion of, say, 30% down payment would suffer losses when the price drops by more than that. When a banking system suffers a crisis, it cannot lend normally. The economy suffers collateral damage due to a dysfunctional banking system. Second, the wealth effect leads to over consumption during the bubble. The payback can cause an economy weak for several years. Third, the bubble induced demand causes the supply side to be distorted. When the inflated industries crash upon the bubble bursting, it would take time for other industries to take up the slack.

The US suffered mostly a price bubble. Some cities like Los Vegas and Miami experienced quantity bubbles. The East and West coasts that account for most of the US’s property value experienced mostly a price bubble. The US government quickly recapitalized its banking system. The direct effect of the banking crisis on its economy is limited. Its economic weakness could be explained mostly by the wealth effect and the loss of employment in the bubble inflated industries.

China is experiencing a property price bubble. One could judge its existence and extent by studying price to income ratio and rental yield. When the average price per square meter in a city is five to ten months of average salary and the market is large relative to the total number of households, it is quite unlikely that the high price isn’t a bubble. In a mature economy it should be about one month. In a rapidly growing economy, it could be two. The price level in China’s main cities where most of the country’s property value concentrates couldn’t be explained by any rational factor.

Rents are going up in China. How could one reconcile it with the perception of empty flats everywhere? Some blame intermediaries for ramping up the market. The explanation is hard to stick. Unless one controls enough rental properties in a market, one just doesn’t have the market power to behave like a monopoly. China’s intermediary industry is too fragmented for this explanation to hold validity.

In theory, when there are too many properties, the real rental yield should be zero, i.e., the rent is equal to the damage that the renter does to the property. That would make a property owner indifferent between renting it out or keeping it empty. For example, the cost of remodeling a flat may be 10% of its value. If the rental yield is 3%, it is effectively zero in real terms. Inflationary expectation is probably driving the current rental increase. Property owners know that it would cost more to remodel their properties. Hence, they should charge higher rents to reflect the damage cost.

What distinguishes China’s property bubble from others is its unprecedented quantity dimension. China just doesn’t have any constraint limiting supply. The current debate about the quantity of empty flats is about the extent of quantity excess. The stock of empty flats measures the size of the quantity bubble. Taiwan experienced a price-cum-quantity bubble in late 1980s. At the time the market quantified the number of empty flats by obtaining data from the electricity supplier on flats without usage of electricity. The stock of empty flats measured this way was about 15% of the total households. Some analysts are trying the same tactic to quantify the volume of empty flats in China. The problem with this methodology is the complexity of China’s housing conditions.

The urban housing stock is mostly split between the old public housing units and the private housing units that have sprung up in the past ten years. The later is about sixty million units. About twenty million are under development by property developers. The local government-owned land banks may be sufficient for another twenty to thirty million. A lot of the public housing units have been torn down for redevelopment. The stock before the latest big wave of redevelopment was probably above 10 billion square meters. The demolished amount couldn’t be too big relative to the newly built housing stock. Otherwise, it wouldn’t make business sense for local governments. The remaining stock is probably around 9 billion square meters.

In addition to the development of regular commercial housing units, companies and government agencies have been building for their employees. The practice has been declining in importance but remains significant in many cities even today. It is hard to tell how many there are. A similar phenomenon is the development of dormitories. The best known example is the dormitories at factories for migrant workers. Most of the over 200 million migrant workers may be living in such dormitories.

Rural communities have been building massive amount of housing units. In areas close to major cities such properties affect their supplies. In terms of official classification, when the suburban farmland is rezoned into urban land, the erstwhile rural houses become urban houses.

Even though China’s new property sales topped 14% of GDP in 2009, the data on the sector are confusing. Maybe it is by design. It is just difficult to have a firm figure on the total amount of urban housing stock. One useful figure is the per capita housing space. The surveys in most cities seem to suggest that the average housing space is between 28-30 square meters per person. We don’t know what population the surveys cover. They certainly wouldn’t include the migrant workers. We don’t know if the empty flats are counted in the surveys. My guesstimate is that China’s total urban housing stock is around 17 billion square meters. I could be off by 10% either way.

While the data are not accurate, we can confidently conclude that China doesn’t have absolute housing shortage and the per capita space is above Europe and Japan’s level. Indeed, if we adopt Japan’s standard, China already has sufficient urban housing space for everyone in the country, i.e., there is housing for every person in the countryside to move into city.

Far more important than the general housing data is the quantity of empty flats held for speculation and no other purpose. In a normal market, the vacancy rate should be equal to (1) the number of households relocating times the average transition time plus (2) the number of new household formation times the average purchase time. For example, if 6% of the households relocate every year and the transit time is three months, the vacancy rate of 1.5% could accommodate it. If the new household formation is 3% and the average time for property purchase is six months, this factor requires vacancy rate of another 1.5%. The total normal vacancy rate should be 3%. This figure includes the new properties ready for sale.

While the government doesn’t publish vacancy data, I think that the vacancy rate for the commercial housing stock is between 25-30%, at least 100% above what a normal market requires. The difference can be viewed as speculative inventory like people who hoard copper for price appreciation. The value of the speculative this inventory is probably around 15% of GDP.

The more frightening prospect is the prospect of massive amount of speculative inventory that could form in 2010-11. The recent credit tightening to squeeze second and third home buyers has caused transaction volumes to collapse across the country. What I can find from intermediaries is that most property demand falls into the restricted categories, i.e., speculative. It is reasonable to assume that the supply would be close to 15% of GDP in value in 2010 and 11. The tightening policy is holding back the market, and the supply is piling up on the developers side as inventory. When the policy is loosened again, speculation will probably revive. It could cause speculative inventory to double in value.

The chance for the current tightening policy to loosen is significant. In some cities banks are already loosening a bit. As local governments depend on property for revenue, they will get into financial trouble, if the transaction volumes remain low. Many local governments are high in debt. It is common to see local governments with debt five times revenue. If the revenue collapses, they could default. The central government may loosen policy over this consideration. The loosening may be implemented without announcement. While such a change of heart eases the short-term government financial difficulty, it may double the trouble down the road when the property bubble bursts.

In addition to the commercial housing stock, vacancy rate could be high in other property categories. As they are not market driven, people who are in an advantageous position or connections (e.g., suburban farmers and the employees of the companies that could build their own housing) tend to have access. Hence, it tends to have a higher vacancy rate than the commercial market. While such properties don’t compete in sales, they compete in the rental market. They are part of the effective supply. Their vacancy rate should be taken into account when calculating the property market excess.

Even if China’s empty urban flats are less than 64.5 million, it could be half as many as defined by international standard. That would still be equivalent to 20% of the urban households, higher than Taiwan’s vacancy rate at its peak. Moreover, if the property tightening is loosened, it could rise above 30% of the urban households.

The size of China’s quantity bubble is just unprecedented. The fact that China has housing oversupply isn’t surprising. Excess supply is common in general. It reflects the under-pricing of capital. China’s economic system is structured to increase supply quickly. But, rising price despite rising vacancy is surprising. Normally, speculators are spooked by high vacancy rate. It is a sure sign that the price would be in trouble. Four unique factors may explain China’s unique phenomenon.

1) Sustained negative real interest rate has led to declining demand for money and rising appetite for speculation. Greed and fear of inflation are working together to form unprecedented speculative demand for property.

2) The massive amount of gray income looks for a ‘safe’ haven. China’s gray income of various sorts could be around 10% of GDP. In an environment of rising inflation and depreciating dollar-the traditional safe haven, China’s rising property market is becoming the preferred place for this money.

3) China’s masses have no experience with property bubble. The property crash in the 1990s touched a small segment of the society. Foreigners and state-owned enterprises were involved. Geographically, it was restricted to Southern freewheeling zones like Hainan and Guangdong and Shanghai. Most people in China don’t know that the country had a property crash. Lack of fear is turbo-charging the greed.

4) Speculators believe that the government won’t let property price fall. They correctly surmise that local governments all depend on property for money and will try every effort to prop up its price. But, their faith in the government omnipotence is misplaced. In the end, market is bigger than government. Government behavior can delay, not abolish market force. Nevertheless, this faith in government is removing the fear over the downside. Hence, the speculative demand just grows with credit availability unchecked.

China’s property tightening policy still appears like improvisation. Buyer discrimination policy is complex to implement and causes excessive market volatility. If the policy is changed under pressure, it would further embolden speculators. The excess then multiplies. It will make the eventual adjustment so much more painful.

Raising interest rate is the best policy to cool speculative demand gradually, avoiding market disruptions. Delaying interest rate increase will only cause the stock of empty flats to surge and make a collapse inevitable.

We are witnessing a change in attitude towards speculation among central bankers. The central bank governor of Israel, Stanley Fischer, just raised interest rate, specifically citing the need to prevent property bubble. Israel’s property price has risen by 20% in the past twelve months. India, Korea, and Taiwan are all raising interest rate out of concerns for inflation and speculation. China’s problems are bigger than any of these economies. By keeping interest rate so low the bubble problem will only get worse, despite periodic crackdown on speculation, because it is not credible.

A sustainable policy requires a solution to the government financial problem by increasing other sources of revenue or limiting expenditure. The investment-led growth strategy that local governments all adopt inevitably leads to search for revenue. The search usually leads them to maximize the land sales revenue. Unless some limits are put on the investment-led growth strategy, China’s property market cannot function normally. On the revenue side, property tax could play a significant. In most countries, property tax goes to local governments for financing local public services. China should adopt the same model. It can alleviate the local government financial difficulty. But, limiting expenditure, not increasing revenue is needed more. No other source of revenue could replace that from the property market.

China urgently needs a coherent property strategy, not periodic but unsustainable crackdown on speculation. The massive overhang of empty flats should goad the policymakers into taking actions. It is a sure sign of trouble to come. The time to act is now. If the current policy is loosened without introducing a coherent policy framework, the eventual crash could bring down the economy for an extended period. What’s occurring to the US economy now is a stark live lesson for us. China should end up like the US.