Structural problems in China’s real estate market have sparked “persistently bad news flow” and driven a “confidence crisis” among investors, according to DWS’s global chief investment officer Björn Jesch.
“China’s biggest challenge lies in the simultaneous imbalance of the real estate sector and two closely related sectors: the shadow banking system and the financing vehicles of the local authorities,” he wrote in a September research note titled China: downturn or u-turn?, which referred to real estate as “China’s main problem.”
“Here there is a threat of a downward spiral, the timing of which is not foreseeable, especially as a large amount of finished and unfinished housing is clogging the market and further eroding confidence,” Jesch said, adding that Beijing will be tasked in the coming months with finding the right balance between selective, confidence-building reforms and measures to reduce systemic risks.
“It is unmistakable that China is currently struggling with challenges that go beyond cyclical weaknesses,” he wrote. “In particular, the real estate sector is in a correction phase that could last for some time and, given the importance of this sector for private households, could also weigh on consumer sentiment for a long time.”
That said, the institution still expects nearly 5 percent growth for China’s economy this year and next because “China’s strengths have not disappeared overnight,” he said. These include some of the country’s high-tech industries, the size of its domestic market, low private homeownership debt, low foreign debt and the growing service sector.
Recent government reforms could help the property sector regain balance. Beijing has been easing financing restrictions in the property sector since the second half of 2022. Restrictions on property purchases were relaxed in an 11-point plan last November and, in August this year, the government unveiled steps to improve credit conditions for existing and new residential mortgages. Select developers also regained access to financing to reduce the number of unfinished housing projects.
“But Beijing does not want to return to old times,” Jesch said. “We do not expect the real estate sector to regain the degree of importance it previously had in the economy, but rather to fall back to a ‘healthy’ level where supply and demand trends match.”
Doing so will require pushing ahead with strengthened social security systems, the report noted. Around 96 percent of urban families live in their own homes, and have 70 percent of their wealth tied up in real estate. Over 41 percent own multiple properties. As such, housing demand is expected to drop from 15 million units in 2020 to five million by 2050, according to OECD.
China is dealing with a real estate “overhang,” Jesch said. This is partly due to 90 percent of apartments for sale having been pre-financed by their buyers and these interest-free payments being used by developers to finance additional land purchases. This arrangement worked when the projects were completed on time with a continued rise in property prices. However, affordability has become an issue, with Beijing’s housing four times more expensive relative to rising disposable income as of 2021, and twice as expensive as London on that basis.
Outlook for success
Given that in prior years China’s government had introduced measures detrimental to the private sector, it is not yet clear whether it will implement the measures necessary to maintain a healthy balance, Jesch noted. But he cited an “urgent need” for China to bolster its private sector, particularly in the areas of innovation and technology. As the country decouples from the US and other G7 countries in terms of high-tech goods production, it will become more important for China to become less dependent on them.
“The real estate sector, even though it may have stabilized after the slump, can never be the growth force it once was,” Jesch wrote. With the labor force also shrinking, the country has no other means of sustaining its economic growth and technological advancement, he said.