Can China’s outsized real estate sector amplify a Delta-induced slowdown?

In our recent research paper (Rogoff and Yang 2021), my co-author Yuanchen Yang and I argue that the footprint of the Chinese real estate sector has become so large that absorbing a significant housing slowdown would have an impact. significant on overall growth, even setting aside the usual (elsewhere) amplifying effects of financial sector weaknesses (Reinhart and Rogoff 2009). With real estate production and real estate services accounting for 29% of GDP – rivaling Ireland and Spain at their pre-financial crisis peaks – it is difficult to see how a significant slowdown in the Chinese economy can be. avoided even if banking problems were contained.

Of course, the Chinese authorities exert enormous leverage in the housing market and have in the past used a variety of tools to alternately tighten and stimulate the market. But the problem is not only to maintain stability, but also to maintain the scale of production and employment. The fact that the per capita square footage of housing in China already rivals that of much richer economies like Germany and France (see Figure 1) is sobering. Even acknowledging that the average construction quality in China is lower, leaving room for improvement, it suggests that the current size of the real estate sector, relative to GDP, cannot be easily maintained.

Figure 1 Average residential area per person per country in 2017 (ft2)

Source: Rogoff and Yang (2021).

So far, China appears to have brushed aside concerns about growth and real estate. With its Covid-zero approach, the Chinese economy was able to rebound strongly after the pandemic, with growth of more than 8% in 2020 and more than 12% in the first half of 2021. As elsewhere, the growth in house prices has been strong. Nonetheless, as China adapts to cope with the much more virulent Delta strain, growth is slowing sharply. In the medium term, China faces a host of challenges, ranging from extremely unfavorable demographics to slowing productivity, not to mention environmental degradation, water scarcity and tackling inequality. So far, the real estate boom has been supported by a large economic boom which is now facing strong headwinds.

To arrive at our estimate of 29% of the share of the Chinese real estate sector, broadly defined to include both physical construction and real estate related services, we use the most recent input-output matrix (2017 ) from China (released in mid-2019), including not only first-order effects, but higher-order interactions when a real estate shock spills over to the entire economy. (Including the external sector slightly lowers the share but does not fundamentally change the message.)

Figure 2 uses a similar measure to construct the share of real estate in advanced economies, and plots them alongside China. As the figure illustrates, China is even more dependent on housing construction than Ireland and Spain were before the global financial crisis, and far more than the United States was at its peak. from 2005.

Figure 2 Share of real estate activities in GDP by country

To note: This figure shows the share of real estate related activities in total GDP in China, United States, United Kingdom, Germany, France, Spain, Netherlands, Finland, Ireland, in Japan and Korea.
Source: Rogoff and Yang (2021).

While it is important to stress that house price data is difficult to collect and standardize, comparisons of China with other countries are nonetheless quite dramatic. Indeed, by international standards, the breathtaking scale of China’s house price boom is unprecedented for a large economy. Figure 3, based on pre-pandemic data, shows that house price-to-income ratios¹ Beijing, Shanghai, Shenzhen and Guangzhou are comparable to all the most expensive cities in the world. Price-to-income ratios in Beijing, Shanghai and Shenzhen exceed the multiple of 40, compared to 22 in London and 12 in New York.² Of course, such price-to-income ratios could be justified if China’s spectacular growth record over the past three decades is expected to continue indefinitely. But as we have argued before, the long-term risks posed by aging, the narrowing technology gap with the West, and the general slowdown in productivity globally make it likely that growth will continue to decline even after the economy recovers from the latest wave of the pandemic.

figure 3 House price-to-income ratios in major cities of the world, 2018

To note: This figure shows the price-to-income ratios of houses in Beijing, Shanghai, Hong Kong, Shenzhen, Singapore, Tel Aviv, Guangzhou, Paris, Vancouver, Munich, Barcelona, ​​Tokyo, New York and San Francisco, respectively.
Source: Rogoff and Yang (2021)

We recognize that a number of previous authors have explored the potential risks in the Chinese housing market, with leading examples such as Fang et al. (2015), Chivakul et al. (2015), Glaeser et al. (2017) and Koss and Shi (2018). Although there is a range of opinions (see in particular Gyourko et al. 2010), the general consensus has been that although housing price appreciation in China is literally an order of magnitude greater than the United States experienced as its 2008 financial crisis approached, it is not necessarily a bubble and it would take a marked and sustained economic slowdown in overall economic growth to generate a lasting real estate recession.

However, these studies are based on data that is somewhat outdated today in the landscape of China’s rapidly changing economy. In Rogoff and Yang (2020), we use newly available sources, taking advantage in particular of the digitization of Chinese statistics which has made it possible to provide both more complete and more precise data, to significantly extend and update the data. Previous work. And, of course, the Covid-19 pandemic, especially as new mutations evolve, poses a very real risk that the catalyst for a lasting slowdown in growth is at hand.

My 2021 article with Yang focuses on the importance of real estate for growth and jobs, but of course financial vulnerabilities are also a big concern, even though China is proving to be much better suited to sanitation. debt that Western governments managed after 2008, as many observers anticipate. . However, the imminent bankruptcy of Chinese real estate developer Evergrande, in debt of more than $ 300 billion,³ will be by far the biggest problem the government has had to face, and weaker real estate companies face the challenges of renewing their debts. Gao et al. (2020) argue for the case of the United States in the early 2000s, real estate speculation in the run-up to a crisis can dramatically worsen the real effects of a possible collapse. While the Chinese authorities have long made periodic efforts to contain speculation, it has been extremely difficult in the face of its epic housing price boom that has lasted for decades, as Wei (2017) points out.

The challenge of rebalancing the economy relative to real estate production and services is an issue China will face in the years to come, perhaps as soon as possible.

The references

Chivakul, M, WR Lam, X Liu, W Maliszewski and A Schipke (2015), “Understanding Residential Real Estate in China”, IMF Working Paper 15/84.

Fang, H, Q Gu, W Xiong and LA Zhou (2015), “Demystifying the Chinese Housing Boom”, NBER Macroeconomics Annual 30 (1): 105-166 (see also the Vox column here).

Gao, Z, M Sockin and W Xiong (2020), “Economic consequences of real estate speculation”, Review of Financial Studies 33 (11): 5248-5287 (see also the Vox column here).

Glaeser, E, W Huang, Y Ma and A Shleifer (2017), “A real estate boom with Chinese characteristics”, Economic Outlook Journal 31 (1): 93–116.

Gyourko, J, Y Deng and J Wu (2010), “How Risky Are China’s Housing Markets? »VoxEU.org, July 28.

Koss, R and X Shi (2018), “Stabilizing the Chinese Real Estate Market”, IMF Working Paper 18/89.

Reinhart, CM and KS Rogoff, (2009), This time is different: Eight centuries of financial madness, Princeton University Press.

Rogoff, K and Y Yang (2021), “Has China’s housing production peaked?”, China and the global economy 21 (1): 1-31 (earlier version available here).

Wei, SJ (2017), “Could this be happening in China? », VoxEU.org, September 22.

End Notes

1 The house price-to-income ratio is calculated as the ratio of the median house price to the median household disposable income, expressed in years of income.

2 These comparisons predate Covid-19.

3 https://www.wsj.com/articles/chinas-property-curbs-send-economic-tremors-11631707347?mod=searchresults_pos6&page=1