Who has financed all this vacant Beijing Real Estate?
Any cursory examination of Beijing’s skyline in 2008-2009 will reveal that commercial buildings such as general office, retail space and hotels have been sprouting up like weeds. As the Olympics wound down and the Global Financial Crisis deepened, it was clear to all that the vacancy rate for these mamoth buildings is very high. Beijing is oversupplied with commercial real estate by an estimated 14 years of optimistic growth. One needs to wonder who financed these buildings and how will they recoup their investment. It seems like the heard mentality has prevailed.
___A recent article by Chan Akya of the Asia Times Online titled China’s unreal estate puts forth a very plausible theory on the overbuilding of commercial real estate in Beijing.
My schematic of what happens when countries with large current account surpluses peg their exchange rates briefly summarized below:
1. Large build-up of foreign exchange reserves that are invested in the debt of the importing country; in this case the United States;
2. Significant inflows of foreign exchange into the exporting country (China) lead to an explosion in local money supply as the central bank compulsorily buys all foreign exchange with local currency;
3. The competitive advantage of the nation in exports leads to greater investments as more companies move their factories to the country; leading to even greater exports in future; this feeds into the above 2 steps;
4. The excess supply of local currency from the above three steps leads to massive asset bubbles as local investors (including the exporters) use the money to chase after assets that are becoming increasingly scarce, such as land;
5. Eventually, all financial assets relating to the future income of the country – stocks, bonds and property – are inflated beyond everyone’s wildest imagination;
6. Reacting to inevitable government measures to cool down the flow of money around the economy (see steps laid out below), many companies start borrowing from overseas investors who are otherwise locked out of participating in the economy. These proceeds are used to invest, or more accurately speculate, in property, shares and so on, in effect accentuating the bubble conditions mentioned in step 5.
___Let me try to summarize:
1. The world buys lots of cheap Chinese goods, pays China in foreign currency
2. China’s money is pegged to the US dollar. China accumulated a whack load of US dollars. Huge inflows of foreign money start to burn a hole in Chinese pockets
3. Idle Chinese money compete for investment opportunities, exhaust them, and then start buying up and building commercial real estate
4. Reality hits home that there are too many new buildings chasing too few companies. Chinese business get nervous
5. Chinese business sells these “prime real estate” opportunities to foreigners or other Chinese companies, walking away with large profits.
___If China’s yuan could float, there would be a greater demand by foreigners for Chinese money. Chinese goods would appreciate in price and cost more. As the price of Chinese goods rises, fewer foreigners would buy Chinese goods, reducing demand, and possibly mitigating the huge influx of foreign capital in China. Because China’s yuan is pegged to the US dollar, this self-correcting mechanism does not function.
___It is clear that there is excessive unleased commercial real estate space in Beijing. All that marble needs to be financed but by whom? These nonperforming investments will need to be written down on some company’s accounting books. If these investors are foreigners, will this extra economic burden slow down a very tentative recovery from the Global Financial Crisis? If these investors are Chinese, will this force Chinese companies into bankruptcy? Will we ever know who financed these magnificent office towers?
___Is the saying “Easy come, easy go” applicable here? Maybe a Chinese translation is in order.
Related links:
– Banks Face Big Losses From Bets on Chinese Realty
– China property prices ‘likely to halve’
– In China, Property Sales Show Signs of Picking Up
While I appreciate that high levels of consumption in the west have led to trade surpluses in China, I’m not totally convinced that floating exchange rates are the answer.
There’s an implicit assumption in business — led by mainstream economists — that equilibrium is a natural and desireable state, I’m looking more and more into alternative views on systems. This has included the Austrian school of economics, as well as theory of reflexivity by George Soros.