When visiting another country you wouldn’t think that roaming around looking at new buildings under construction would be a significant thing in a trip but it was.  These buildings and all they represented are one of the most significant issues facing China today.

 

 

The last time I had come to China three years before I was completely shocked by the pace of grown all over the country.  I spent some time in Zhengzhou, a medium size city that nobody in the west has ever heard of.  I had come up with an example for my friends to put it in perspective that in six years they had built a new section of town that was bigger than the downtown of a medium sized US city multiplied by two.  This time around after getting a better survey of the situation I realized that example was still understating the reality.

 

The last time I had come to China three years before I was completely shocked by the pace of grown all over the country.  I spent some time in Zhengzhou, a medium size city that nobody in the west has ever heard of.  I had come up with an example for my friends to put it in perspective that in six years they had built a new section of town that was bigger than the downtown of a medium sized US city multiplied by two.  This time around after getting a better survey of the situation I realized that example was still understating the reality.

 

 

After having gotten past the “I can’t believe this” stage I started to look closer at the phenomenal growth and saw something much larger, and perhaps darker.  These high rise apartment complexes were going up everywhere.  But after I found out how much they cost and looking at them up close I realized this is a huge bubble waiting to pop.

 

After having gotten past the “I can’t believe this” stage I started to look closer at the phenomenal growth and saw something much larger, and perhaps darker.  These high rise apartment complexes were going up everywhere.  But after I found out how much they cost and looking at them up close I realized this is a huge bubble waiting to pop.

The price of housing in China is becoming a real social issue.  In fact when we would talk with Chinese the price of housing was the number one topic of conversation that was on their minds.  The apartments that are being built in the Cities are running 20-30 times the annual wage of a normal worker with a decent job.  New apartments at the edge of development are running over $200K US.  Older apartments in better parts of town $300K or more.  These are being sold to people who make $500/month?

 

 

After talking with people we found that apartments are a wildly popular investment tool for the affluent class.  Often times return on bank accounts is regulated by the government; inflation is high so people are looking for ways to maintain the value of their cash.  Now were a person who’s official salary is maybe $1000-2000 a month gets an extra half million to worry about is a whole other matter but they want to put it somewhere.  So they buy real estate because the price is rising so fast. It’s a good investment right?

 

After talking with people we found that apartments are a wildly popular investment tool for the affluent class.  Often times return on bank accounts is regulated by the government; inflation is high so people are looking for ways to maintain the value of their cash.  Now were a person who’s official salary is maybe $1000-2000 a month gets an extra half million to worry about is a whole other matter but they want to put it somewhere.  So they buy real estate because the price is rising so fast. It’s a good investment right?

It’s a good shell game.  As best I could tell most of the official owners of these places don’t live there.  Many of these apartments are purchased but empty.  Many are rented out but if you run the numbers on rate of return on rent vs the cost it doesn’t make sense.  It’s all about the appreciation value.  There is an active market of selling these things to other buyers.  But most of the activity seems to be one investor selling it to another investor.  Not sales to the end user.

 

 

Inevitably comparison to the Japanese experience in the early 90’s came up.  But many Chinese think somehow this is different. I would agree in that its worse.  In Japan because of geographical and market forces land to build on was very precious.  While China might be a very crowded place there is not a strong limit on the amount of land they can use to build houses.  This is because developers don’t have to pay market prices for land.  If a developer wants to make a bunch of money they simply go to the local government, show them their plan, promise an apartment or two for someone’s family and spread some cash around.  Then they local officials go an appropriate the land from the farmers paying them as little as they feel they can get away with (like a one way rail ticket to go starve somewhere else). But since it’s for “the betterment of the nation” and the right people are bought off it all happens under the rug.

 

Inevitably comparison to the Japanese experience in the early 90’s came up.  But many Chinese think somehow this is different. I would agree in that its worse.  In Japan because of geographical and market forces land to build on was very precious.  While China might be a very crowded place there is not a strong limit on the amount of land they can use to build houses.  This is because developers don’t have to pay market prices for land.  If a developer wants to make a bunch of money they simply go to the local government, show them their plan, promise an apartment or two for someone’s family and spread some cash around.  Then they local officials go an appropriate the land from the farmers paying them as little as they feel they can get away with (like a one way rail ticket to go starve somewhere else). But since it’s for “the betterment of the nation” and the right people are bought off it all happens under the rug.

At first I thought it might be different in that for the most part this is “surplus” money being dumped into the market.  While it is possible to get a bank loan to buy a place that’s not the Chinese tradition only accounts for a small percentage of the “financing” activities.  A lot of money is being borrowed from friends and family to buy an apartment to simply get in on the gravy train.  It works till the train stops and China discovers they’ve tied up good chunk of their national wealth in this mess.

 

 

pict5

 

Another reason this is a giant game of Chicken (aside from the realities of supply and demand taking their toll) is that these buildings are built with amazing speed and poor quality.  The rate that can build these things is shocking.  I once heard it boasted they could build a floor a week once they got going.  They can build a whole housing development for 20,000 people in less time than it takes us to do the paperwork for skyscraper.

 

 

I visited a few recently constructed buildings (within the last 2 years).  They already had tiles falling off the walls in the common areas and issues with the elevators working reliably.  I thought back to some buildings I had seen earlier that were around 15 years old (pre-boom) major cracks and chunks falling out of walls.  It’s questionable if these buildings will last 50 years.  So what happens to the building (and your apartment in it) once they start falling apart?  The answer in the past was tear it down and build something better.  I’m not sure that this is going to work this time around.  In the past you were tearing down small 2-6 story apartments and replacing them with large 30+ story buildings.  Economically that is very doable as you have more 5-10 times more people per square foot of land to finance it.  But tearing down a 30 story to put in another 30 story.  Everyone gets to buy their apartment over again?  I don’t see that happening and I don’t see them building 60 story units instead.

 

I visited a few recently constructed buildings (within the last 2 years).  They already had tiles falling off the walls in the common areas and issues with the elevators working reliably.  I thought back to some buildings I had seen earlier that were around 15 years old (pre-boom) major cracks and chunks falling out of walls.  It’s questionable if these buildings will last 50 years.  So what happens to the building (and your apartment in it) once they start falling apart?  The answer in the past was tear it down and build something better.  I’m not sure that this is going to work this time around.  In the past you were tearing down small 2-6 story apartments and replacing them with large 30+ story buildings.  Economically that is very doable as you have more 5-10 times more people per square foot of land to finance it.  But tearing down a 30 story to put in another 30 story.  Everyone gets to buy their apartment over again?  I don’t see that happening and I don’t see them building 60 story units instead.

 

 

The way I see it this is a giant train wreck waiting to happen.  Real estate speculation has tanked the economies of just about every western nation, why should China be different.  Welcome to the club.

 

The way I see it this is a giant train wreck waiting to happen.  Real estate speculation has tanked the economies of just about every western nation, why should China be different.  Welcome to the club.