Chinese Opinion Writer References Dutch Disease in Relation to Real Estate

Expert: China's real estate risk brunt of vigilance "Dutch disease"

The so-called "Dutch disease" refers to a country's economy, especially the particularly dependent on exports of natural resources such as oil and copper resources, such as a large oil field once found, will lead to a lot of social resources to flow to the oil fields, the entire economy will naturally Industry very dependent, leading to future problems of sustainability and economic growth will increase volatility.

And China's real estate industry will have similar importance. Compared to other industries, to solve more difficult once the real estate risk. Zhang Zhiwei pointed out, we must first face is higher than other issues of systemic risk. For example on the financial impact of last year 39% of the revenue from the real estate, of which 25% is land revenue, other real estate transaction taxes. This is an indispensable source of revenue, if the real estate market declined significantly, it will put pressure on revenue.

In addition, many other industries rely on real estate development. From an investment perspective, investment in fixed assets, plus real estate financing platform where nearly half the level of the total investment.

From the point of view of supply and demand, oversupply of real estate has entered the state. If the next few years, the market decline, real estate investment growth from an average of 20 percent annual growth fell to 10 percent is not impossible, it would have a greater economic impact. Is also yet to find a substitution effect can occur when the real estate downturn in the industry.

Said Zhang Zhiwei, Nomura expects a quarter of China's economy will grow by 7.3% year on year in March, the industrial added value in terms of the data may be a slight rebound. But the general direction, March improved data or short-lived. The bank expects the second quarter GDP growth will drop to a level close to 7%. The reason consists of two aspects. First, there is also a higher financing costs, the lag effect of its impact on the economy is expected to gradually appear in the first half of this year. The second is the slowdown in the coming months, the real estate investment.

Nomura also expects further monetary policy fine-tuning, or there may be a few months further big moves in the future, in May and June may cut the RRR 50 basis points.

Dutch Disease

In economics, the Dutch disease is the apparent relationship between the increase in exploitation of natural resources and a decline in the manufacturing sector (or agriculture). The mechanism is that an increase in revenues from natural resources (or inflows of foreign aid) will make a given nation's currency stronger compared to that of other nations (manifest in an exchange rate), resulting in the nation's other exports becoming more expensive for other countries to buy, making the manufacturing sector less competitive.

In this case, the author leans towards what the Austrians call malinvestment, although since I do believe the yuan is overvalued, there are also aspects of the Dutch Disease exacerbating trends.

Malinvestment is a concept developed by the Austrian School of economic thought, that refers to investments of firms being badly allocated due to what they assert to be an artificially low cost of credit and an unsustainable increase in money supply, often blamed on a central bank. This concept is central to the Austrian business cycle theory. Austrian economists such as Nobel laureate F. A. Hayek advocate the idea that malinvestment occurs due to the combination of fractional reserve banking and artificially low interest rates misleading relative price signals which eventually necessitate a corrective contraction—a boom followed by a bust.

Andy Xie has discussed how high real estate costs impact the the economy. This isn't the article I'm thinking of, but he touches on the topic.

When the bubble bursts, the incentive for businessmen will change. The reward will go to those who build better products, not those sitting on a piece of land. I believe that many great companies will rise up in the next decade. Even the property industry will be better.

......Some argue that the property bubble is essential to China’s economic prosperity. This is utter nonsense. While the property industry has become bigger relative to the economy over the past decade, it mostly consumes resources and doesn’t enhance overall productivity.

It is the main driver for China’s inflation. If it shrinks, the economy may suffer temporarily. However, overall productivity will rise. The resulting income growth will bring back more sustainable economic prosperity.

......Some financial accidents, e.g., trust products defaulting, may occur in the coming months. Their impact on the real economy will be limited. As the land bubble deflates, the resulting reductions in production costs and consumer prices should support the real economy by boosting exports and consumption.

I'm not sure about exports. However, it is the case that a bursting of the bubble will free up a lot of income for Chinese consumers. They will lose wealth on paper, but the economy will see a lot of capital released from the property sector.

Andy Xie also sees China's property bubble going the way of Japan and Taiwan, not Hong Kong and SE Asia:

China’s property market will adjust similar to what happened in Japan and Taiwan rather than in Hong Kong or Southeast Asia. The former was gradual, and the latter fast.

In 1998, banks in Southeast Asia owed short-term dollar debts to Western banks. When the debts weren’t rolled over, these countries had to raise real interest rates enormously to contract domestic credit in order to pay off foreign creditors. Surging real interest rates caused their property markets to drop off a cliff.

After land prices peaked in 1992, Japan and Taiwan faced much less pressure because they didn’t have short-term foreign debt. Their land prices declined gradually and in waves, i.e., every recovery had lower highs and lower lows in both price and volume.

Still, Xie thinks prices will eventually come down by 70 to 80% by the end.