I'll Tell You When Chinese Bubble Is About to Burst: Andy Xie
“My maid just asked for leave,” a friend in Beijing told me recently. “She’s rushing home to buy property. I suggested she borrow 70 percent, so she could cap the loss.”
It wasn’t the first time I had heard such a story in China. Some friends in Shanghai have told me similar ones. It seems all the housemaids are rushing into the market at the same time.
There are benefits to housekeeping for fund managers. China’s housemaids may be Asia’s answer to the shoeshine boy whose stock tips prompted Joseph Kennedy to sell his shares before the Wall Street Crash of 1929.
Another friend recently vacationed in the southern island- resort city of Sanya in Hainan province and felt compelled to visit a development sales office. Everyone she knew had bought there already. It’s either buy or be unsocial.
“You should buy two,” the sharp sales girl suggested. “In three years, the price will have doubled. You could sell one and get one free.”
How could anyone resist an offer like that?
The evidence in official-corruption cases no longer involves cash stashed in refrigerators or starlet mistresses in Versace clothing. The evidence is now apartments. One mid-level official in Shanghai was caught with 24 of them.
China is in the throes of a vast property mania. First, let me make it perfectly clear that calling China’s real-estate market a “bubble” isn’t denying China’s development success. As optimism is an essential ingredient in a bubble, economic success is a necessary condition. Nor am I saying that prices will drop tomorrow. A bubble evolves and bursts in its own time. When it is about to burst, I’ll let you know.
Expectations of a Chinese currency revaluation are, perhaps, the most important force inflating the bubble. First, it plays to the latent human desire for a free lunch. You just need to exchange your money for Chinese yuan. According to all the experts on Wall Street, you can only gain. The money has been gushing into China.
Second, the revaluation story has kept Chinese money inside the country. The dollar has always been the safe-haven asset for Chinese. This is why Chinese banks had a large dollar deposit base. Of course, anybody who was somebody had dollars offshore. Now all that money is back. More importantly, any income, legal or otherwise, now stays in China.
Flats Beat Cash
Why would corrupt officials keep apartments rather than cash? Well, according to Wall Street, the yuan is going to appreciate. So holding dollars is out of the question. And why hold Chinese cash when property prices are always going up? The corruption money can be turbocharged in the real-estate market. Only when they are caught do they understand the downside of holding fixed assets.
The massive liquidity waves have prompted Chinese banks to lend as much as possible. One Wall Street tradition adopted quickly in China was bonus recipients signing company checks to themselves. All you need is to report eye-popping quarterly earnings. It is an easier game than on Wall Street: The Chinese government keeps the lending spread wide by fixing both the deposit and lending rates. You just have to lend. The earnings will follow. Might the loans turn bad in three years? Well, I’m not going to give back my bonuses, right?
For a bubble to last you need a force to hold it together when it stumbles. Wall Street kept pumping out new natural or synthetic products to turn debt into demand for assets. Local governments play this role in China.
Future Profits Now
When it comes to interested parties, Chinese governments are knee-deep in the bubble. They get all the money from land sales. Land values have risen to half of the development cost. In hot spots, land costs more than the development -- the governments want to collect the future price gain immediately.
When properties are sold, transaction and profit taxes kick in. Developers pay more levies to the governments than they earn. When developers finally book their earnings, they must put it to work, as good Wall Street analysts would recommend, so they buy land. As land prices are much higher, their measly earnings aren’t enough, so they have to borrow. The governments get all their earnings and debt repayments. Can you blame them for boosting the market whenever it slips?
Land obsession is another force at work. China was a rural economy not so long ago. The most important asset was always land. “Be a government official and become rich” is a millennium-old Chinese saying. It didn’t explain where the money went. It always went into agricultural land. In cities, you only see buildings, not paddy fields. But the buildings sit on land.
Now housemaids are in the market. Who else? Never underestimate 1.3 billion people. In China, they say you should take the shoeshine boy’s advice. Many would listen to him.
Welcome to China, the land of getting rich quick.
(Andy Xie is an independent economist based in Shanghai and was formerly Morgan Stanley’s chief economist for the Asia- Pacific region. The opinions expressed are his own.)
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