How China's property bubble burst

Summary

In 2023, China's real estate market faced a severe crisis, with developers offering unusual incentives like gold bars to attract buyers. Originating from a system where private property was non-existent until the 1980s, China saw a massive boom in homeownership, leading to an inflated property market worth $60 trillion. However, unsustainable borrowing practices, encouraged by the government to stimulate growth, led to a bubble. The implementation of policies like the Three Red Lines in 2020 aimed to curb this debt, resulting in unfinished projects and plummeting confidence. With the sector holding $8.9 trillion in debt by 2024, the crisis poses a significant threat to China's economy and global markets.

Takeaways

• 💥 Property developers in China, facing a sales crisis in 2023, offered unusual incentives like gold bars and phones to attract homebuyers.
• 🔨 The crisis in China's real estate market involved massive debts for developers and local governments, alongside tens of millions of empty apartments.
• 🏠 China's real estate market, young and evolving since the 1980s, saw rapid growth with up to 90% of households owning homes by 2023.
• 💵 Land-use rights, separated from land ownership in 1988 reforms, became a critical revenue source for local governments, sidestepping property taxes.
• 📈 The 1994 tax overhaul by Beijing, while boosting central government revenues, pushed local governments towards earning from land-use sales.
• 🚦 A construction boom, fueled by land sales and urbanization, significantly contributed to China and the global economy for three decades.
• 💳 The advance payment system to property developers in China provided them with interest-free financing, catalyzing rapid development but also risks.
• 🛠 Xi Jinping's 2017 stance against property speculation led to the 'Three Red Lines' policy in 2020, restricting developers' borrowing and exacerbating the crisis.
• 🔥 The property bubble's burst was hastened by government policies aimed at controlling debt, leading to unfinished projects and waning investor confidence.
• 👩‍🌾 Demographic shifts, such as an aging population and a job crisis among the youth, are expected to decrease housing demand in China.

Q & A

What were some of the incentives offered to Chinese homebuyers in 2023 to boost property sales?

In 2023, Chinese homebuyers were offered various unusual incentives, including gold bars and phones, by property developers desperate to attract sales.

Why did property developers in China start offering extreme incentives to homebuyers?

Property developers started offering extreme incentives due to their increasing desperation to attract sales amidst a crisis involving billions in developer debt and millions of empty apartments.

When did private property ownership begin in China, and what was the system before that?

Private property ownership in China began in the 1980s. Before that, homes were allocated to residents through a socialist welfare housing system since private land ownership was abolished when the People's Republic of China was founded in 1949.

What led to the massive demand for housing in China in the 1980s?

The massive demand for housing in China in the 1980s was led by the country's economic reforms, which were largely successful, leading to business growth, higher incomes, and urban migration without enough housing to accommodate the influx.

How did China reform its housing system in the late 20th century?

China reformed its housing system by privatizing and commercializing public housing in 1988, allowing tenants to buy their units at low prices, and announcing the end of public housing altogether in 1998.

What is the basis of land ownership and usage in China post-1988 reforms?

Post-1988 reforms, China separated land usage rights from land ownership, giving land-use rights to local governments, which could then sell these rights to enterprises for commercial development, operating on a leasehold model for homebuyers.

What caused the housing crisis in China, according to many economists?

Many economists believe the housing crisis in China was seeded in 1994 when tax system overhauls reduced local governments' revenues, pushing them to increase income from land-use sales amidst ambitious growth targets.

What unique financing method was common among Chinese property developers like Evergrande?

Chinese property developers commonly required buyers to advance a large part of the purchase sum before construction began, providing developers with significant interest-free financing.

What was the 'Three Red Lines' policy and its impact on the housing market?

The 'Three Red Lines' policy introduced in 2020 by Beijing aimed to curb unsustainable borrowing by capping property developers' debt levels. Developers like Evergrande failing to meet these criteria couldn't take on more debt, impacting their ability to complete projects.

What factors contributed to the decline in housing demand in China towards the end of 2023?

The decline in housing demand was influenced by factors like the worst job crisis in decades for young Chinese, leading to delayed home ownership, unaffordability, and a rapidly aging population reducing the overall need for housing.

Outlines

00:00

🏠 The Evolution of China's Real Estate Market

The narrative begins by highlighting unconventional sales tactics by Chinese property developers in 2023, such as offering gold bars to homebuyers, to combat sluggish sales amidst a deepening real estate crisis involving significant developer and local government debt, alongside millions of vacant apartments. China's real estate market, still in its infancy, traces back to reforms initiated in the late 20th century transitioning from a socialist welfare housing system to a predominantly private homeownership model. This shift, propelled by economic growth and urban migration, eventually led to widespread homeownership. However, this rapid development planted the seeds of the current housing crisis, driven by a complex interplay of supply and demand dynamics, government policies, and the unique structure of land-use rights that fueled local government revenues and speculative investment.

05:04

📉 The Bursting of China's Property Bubble

The subsequent narrative explores the escalation of China's property crisis, exacerbated by speculative investment and unchecked debt accumulation within the real estate sector, leading to a massive property bubble. High-profile interventions by the Chinese government, including the 'Three Red Lines' policy, sought to curb this unsustainable growth, precipitating a liquidity crisis for major developers like Evergrande. As demand waned, the effects of COVID-19, demographic shifts towards an aging population, and deteriorating affordability further undermined the housing market. By the end of 2023, plummeting home prices and investor confidence highlighted the profound challenges facing China's real estate sector, a pivotal component of its economy, signaling potential global repercussions as the world watches Beijing's response.

Keywords

💡Property Bubble

A property bubble refers to a situation in real estate markets where housing prices are driven to levels that are unsustainable over the long term, leading to rapid increases followed by a decrease or 'burst'. In the context of the video, China's real estate sector experienced such a bubble, fueled by speculation, low interest rates, and extensive borrowing. This bubble was characterized by skyrocketing property values and massive debt accumulation by developers, eventually leading to a market correction when government policies aimed to curb excessive borrowing and speculation took effect.

💡Land-use Rights

Land-use rights refer to the permissions granted by the state to use land for specific purposes without transferring land ownership. The video describes how, post-1988 reforms in China, land ownership remained with the state while local governments were given the authority to allocate land-use rights. This system allowed municipalities to lease land to developers for commercial and residential projects, creating a significant revenue stream for local governments and fueling the urban development boom.

💡Three Red Lines Policy

The Three Red Lines policy, introduced by the Chinese government in 2020, was designed to curb the high levels of debt among property developers. It set strict limits on the amount of debt that companies could carry in relation to their assets, equity, and cash reserves. This policy directly impacted major developers like Evergrande, which failed to meet these criteria, resulting in restricted access to new borrowing and exacerbating the liquidity crisis within the real estate sector.

💡Evergrande

Evergrande is a prominent example of a real estate company that grew rapidly during China's property boom. Founded in 1996, it became one of the largest property developers in China. The company used the common practice of requiring large advance payments from buyers, which provided significant interest-free capital for new projects. However, the video highlights Evergrande's struggle to meet its financial obligations when the property market cooled and government policies like the Three Red Lines were enforced.

💡Privatization of Housing

The privatization of housing in China began in the late 1980s and accelerated in 1998 when the government announced the end of public housing. This shift from a socialist welfare housing system to a market-driven real estate economy allowed Chinese citizens to own property for the first time in decades. This transformation significantly increased homeownership rates and became a cornerstone of China's urbanization and economic growth, as mentioned in the video.

💡Developer Debt

Developer debt refers to the borrowing that real estate companies undertake to finance their projects. In the context of the video, Chinese property developers like Evergrande amassed huge debts as they expanded aggressively during the housing boom. The reliance on advance payments from buyers and the accumulation of debt became problematic when the government tightened borrowing rules, leading to liquidity crises for several developers.

💡Housing Demand

Housing demand in the video is depicted as the driving force behind China's real estate market growth. Initially fueled by urbanization, economic reforms, and a growing middle class, the demand for housing led to a construction boom and significant increases in property prices. However, the video also notes a shift in this trend due to factors like population aging, economic downturns, and changes in government policy, eventually leading to a decrease in demand and falling home prices.

💡Economic Stimulus

Economic stimulus refers to government measures intended to encourage economic growth. The video mentions China's 2008 stimulus package, which included directives for state banks to extend more credit. This policy was aimed at boosting homeownership rates and supporting the real estate sector, which had become a key component of the country's GDP. However, these measures also contributed to the inflation of the property bubble by making credit more accessible.

💡Housing Affordability

Housing affordability is a measure of how accessible housing is to the population, often expressed as a ratio of house prices to incomes. The video highlights the deteriorating affordability in China, with property prices in cities like Shanghai reaching levels significantly higher than the average annual salary. This discrepancy made it increasingly difficult for many citizens to own homes, impacting demand and contributing to the cooling of the real estate market.

💡Urbanization

Urbanization is the process by which rural areas become urban through population growth and the expansion of cities. The video describes China's rapid urbanization, especially in the 1990s, as millions moved to cities in search of better economic opportunities. This migration significantly increased the demand for urban housing, driving the development boom and the expansion of the real estate market.

Highlights

Chinese property developers offered incentives like gold bars to attract homebuyers in 2023.

China's real estate market crisis involved billions in developer debt and millions of empty apartments.

Private property ownership in China emerged in the 1980s; before that, housing was allocated through a socialist system.

Housing reforms in the late 1970s led to privatization and commercialization of public housing in China.

From virtually no private homeowners in 1979, China now has 80-90% of households owning homes, many owning multiple properties.

Real estate prices are influenced by supply, demand, inflation, government policies, and interest rates.

China's 1988 reforms allowed local governments to sell land-use rights, becoming a major revenue source.

Tax reforms in 1994 increased central government revenue at the expense of local governments, leading to reliance on land sales.

Rapid urbanization in the 1990s increased demand for housing, heavily impacting local government budgets.

China's property market, estimated to be worth $60 trillion at its peak, became the world's largest asset class.

Chinese homebuyers often pay large sums upfront to property developers, unlike typical mortgage models.

Real estate became a preferred investment in China, further fueled by state economic stimulus and easy credit.

Xi Jinping's policies from 2017 aimed to curb speculation and unsustainable borrowing in the property market.

The 'Three Red Lines' policy in 2020 limited the debt levels of property developers, impacting companies like Evergrande.

China's property bubble began to deflate due to government policies and a decline in market demand.

Factors like job crises, affordability issues, and an aging population are impacting China's housing demand.

As of early 2024, China's real estate sector had $8.9 trillion in debt, essential to the country's GDP.

Transcripts

Would you take this gold bar  in exchange for buying a house?  

How about this phone?

A new car maybe?

It might seem absurd, but these were just some of the actual incentives being offered

to Chinese homebuyers in 2023.

Property developers – such as the gold bar-giving Huafa  Tianfu – were forced to get creative as they  

became increasingly desperate to attract sales.

Stories like these were just the tip of the iceberg

in a crisis that involved hundreds  of billions of dollars in developer debt,  

trillions of dollars in local government debt,  and at least tens of millions of empty apartments.

China’s real estate market is relatively  young – only a few decades old.

And that’s because private property didn’t really  exist in the country until the 1980s. When the  

People’s Republic of China was founded in  1949, the Communist state did away with  

private land ownership, saying it belonged  to the Chinese citizens as a whole. Homes  

were instead allocated to residents in cities  through a socialist welfare housing system.

When China began to open up and  reform its economy in the late 1970s,

there were virtually no private homeowners in  the country. But that was about to change.

China’s economic experiments in the 1980s were  largely successful. Its citizens began to make  

good money from the businesses they were setting  up, and its cities began to grow as more people  

migrated from rural areas. But there wasn’t  enough housing to accommodate this influx.

So, the state began to make housing reforms. In  1988, it began to privatize and commercialize  

public housing – offering tenants the opportunity  to buy their units at very low prices. In 1998,  

the government announced the end  of public housing altogether.

Whilst back in 1979, virtually no  one owned their home in China, now,

80 to 90% of households own their homes, with more  than 20% of households owning more than one home.

So where did it all go wrong? Let’s see  how the property market works in China.  

Like any market, the price of real estate is  driven by supply and demand. When supply is  

high and demand is low, prices fall. When supply  is low and demand is high, prices rise. External  

elements, like inflation, government policies,  and interest rates, can all upset this balance.  

But China is still a Communist country, so the  State owns the land these cities are being built  

up on. In its 1988 reforms, however, the  government detached land usage from land  

ownership – and gave what it called land-use  rights to local governments. This enabled  

municipalities to rezone land for commercial  use. Then, they could sell land-use rights  

to private and state-owned enterprises at a  profit. These enterprises then sold on the  

rights in a leasehold model to homebuyers.

This proved to be an incredibly lucrative

source of revenue for local governments,  negating the need for property taxes  

in China, unlike most countries. 

Many economists agree that the seed

for the current housing crisis was planted  then, in 1994. And that was the year Beijing  

decided to overhaul its entire tax system.

The economy was growing, and the central

government wanted a bigger cut. So, it made  tax reforms that helped the state take in a  

lot more money, but it was at the expense of local  governments. At the same time, municipalities were  

being given ambitious growth targets, but no  longer had the tax revenue it had used to fund  

social services. And so, they were encouraged  to increase revenue from land-use sales.

Thankfully for China’s cities, there was  massive demand for these 70-year leases.  

150 million Chinese citizens moved into urban  areas in the 1990s, and they all needed housing.

Profits from selling land shot up and began to  make up a huge share of local budgets. In 2010,  

for instance, land conveyance revenue made  up nearly 70% of local revenues. As a result,  

municipalities became increasingly  dependent on a euphoric housing market.

And so, the construction boom was born.  Property development helped fuel China and  

the world’s economic growth for 30 years.  By some estimates, property in China was  

worth $60 trillion at its peak, making  it the biggest asset class in the world.

And property developers were getting  extremely rich in the process,  

including one you’ve probably heard of.

Founded in 1996 by Hui Ka Yan, Evergrande

was one of the many real estate companies that  blew up alongside the property boom, as well as  

others such as Country Garden, Vanke and Sunac.

In most parts of the world, prospective homebuyers don't purchase their property outright.

They instead put up a percentage of the property price,  

known as a down payment or deposit, while the rest  is covered by a bank. The buyer must then pay the  

bank back, with interest, over time.

But in the Chinese housing system, it’s

common to require buyers to advance a large part  of the sum to property developers, before they  

even start building. This provided developers with  loads of interest-free financing, which companies  

like Evergrande used to fund new projects.  This is well and good, as long as property  

prices keep going up and people trust the system.

And that's what they did. Property quickly became

Chinese citizens’ investment vehicle of choice  over alternatives such as the stock market.

The state’s economic stimulus in 2008, and  an order to state banks to extend credit,  

helped bolster Chinese demand for  homeownership, with some citizens  

buying their second, third or even fourth home.  

Globally, investors piled in as well because they

saw Chinese property as a safe investment,  assuming the state would never let the  

sector fail. And developers leaned into this too.  Evergrande, for instance, had an entire holding  

company based out of the Cayman Islands,  dedicated to raising finances outside of China.

This led to a massive property bubble, with  speculation, price rises and uncontrollable debt.

A property bubble happens when there is an  increase in housing demand for a limited  

supply. Low interest rates, cheap credit  and lowered standards for credit repayment  

are some of the conditions that can entertain  the demand. But when the demand has been met,  

or one of the conditions is curbed, prices  eventually decrease, leading the bubble to burst.

Chinese President Xi Jinping, who was elected  in March 2013, didn’t like what was happening  

in the property market. In a speech in  2017, he declared: “Houses are for living,  

not for speculation.” It was a mantra he would return  to often, and policy began to follow suit.

The biggest of these was the Three Red Lines  policy in 2020. In an effort to curb unsustainable  

borrowing, Beijing essentially capped the  amount of debt property developers could have.

Evergrande and several other private property  developers failed to meet the Red Lines criteria,  

and as a result, could not contract more  debt to fund their ongoing projects. This  

meant they didn’t have the funds to finish  off the properties they’d already sold.

It’s a disaster, the government engineered this  on purpose because they were concerned that there  

was a bubble which of course there is. So, this is  not a surprise that this is going to happen in the  

way it’s turning out. Now the issue is, the State  that keeps pushing this idea of a stimulus as some  

sort of a magic bullet. There is no magic bullet.

The property bubble had been exposed – and began

to deflate. But government policy  wasn’t the only thing cooling down  

the market. Demand was dropping off too.

Cities were no longer seeing an influx in

new residents. In fact, millions of people  chose to leave urban areas and return home  

after the Covid-19 pandemic. A few factors were at play here:  

young Chinese were facing the worst  job crisis in decades, and that lack of  

stable income delayed home ownership. In addition, affordability, or house  

price-to-income ratio, in China was amongst  the worst in the world. The average price for a  

property in Shanghai in 2024 was 48 times higher  than the average annual salary. In comparison,  

a Parisian would need 17 times their income  to afford a place, and a New Yorker 11 times.

China’s population is rapidly aging  too. The WHO estimated that by 2040,  

nearly 30% of the Chinese population would  be over 60 years old. Whilst this will create  

demand for services, the demand for housing  will decline alongside population numbers.

At the end of 2023, home prices in China  dropped to their lowest point in nearly  

a decade, and with them, investors’ confidence.

The government and developers have tried to manage

the crisis by selling off assets, liquidating  businesses and providing emergency loans, as well  

as seeking alternative ways to fund the state.

As of January 2024, the sector still had

$8.9 trillion in outstanding debt. Real  estate represented 25-30% of China’s GDP,  

making it a core component of the Chinese economy.  And as the globe's second largest, China‘s next  

steps to control the crisis won’t just be watched  by its citizens. The world will be watching too.