To restore consumer confidence, China must save the property sector

Instead of squandering billions buying unsold properties, Beijing should learn from the US response to the global financial crisis

Donald Low

Published: 9:30am, 27 Aug 2024

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Since the middle of last year, it was evident that the Chinese economy faced two major risks. The first was that deflationary expectations would depress private spending and investment. In a deflationary environment, households are less likely to spend on items financed by borrowing, while firms cut back on hiring and investing in anticipation of wages and other costs falling.

This keeps credit demand weak and renders lower interest rates less effective in boosting domestic demand. The second major risk was that property prices would continue to decline, undermining consumer confidence and spending.

The economic data for July shows that both risks have materialised and indicate that the economy’s growth momentum might be faltering. Three indicators were especially worrying.

The first was that annual gross domestic product (GDP) growth in July slowed to 4 per cent. This came after it had already slowed to 4.7 per cent in the second quarter of the year.

Second, private investment in the first seven months of the year registered zero growth – indicating a lack of investor confidence. While industrial output increased by 5.1 per cent in July compared to a year ago and fixed-asset investment was up 3.6 per cent, these increases were lower than expected and also lower than in the first half of the year.

Third, while consumer prices edged up slightly, producer prices remained firmly in deflationary territory and have been since October 2022.

A shopper examines produce at a supermarket in Beijing, on August 9. Photo: EPA-EFE

With growth in much of the world likely to slow in the coming months, China cannot look to exports to drive a recovery. Instead, to achieve its growth target of around 5 per cent for 2024, it has to rely on domestic demand. This suggests a fiscal stimulus aimed at boosting household consumption in the short term, as well as reforms to the hukou household registration system and improvements to social security to reduce savings and increase consumption as a share of GDP over the long term.

As for the property debt crisis, the Chinese authorities should take a leaf from the United States’ Troubled Assets Relief Program (TARP) launched at the height of the global financial crisis in 2009. The programme was a vehicle for the US Treasury to inject US$426.4 billion in systemically important financial institutions in return for preferred shares. The Treasury eventually recouped US$441.7 billion when it disposed of those shares.

TARP not only recapitalised the banks that received the equity injections, it also restored confidence in the financial system and laid the foundations for a broader economic recovery. By 2010, the US economy was growing at a healthy clip again.

By contrast, China’s property debt crisis shows no signs of abating. Property investments fell by 10.2 per cent in July compared to a year ago, after falling by 10.1 per cent in the first half of the year.

A construction worker walks past a housing project under construction on the outskirts of Beijing, on July 17. Photo: AP

A property rescue plan launched in May has also produced disappointing results. The latest figures from the People’s Bank of China show commercial banks have lent only 24.7 billion yuan (US$3.47 billion) under the scheme, far short of the targeted 500 billion yuan of credit to support local governments to buy unsold properties.

It is hardly surprising that the Chinese rescue plan isn’t working. First, the size of the rescue fund is too small relative to the size of the problem. Goldman Sachs has estimated that the government would need to spend 7.7 trillion yuan, buying housing inventory at half the market price.

Second, the design of the plan is also flawed. The 300 billion yuan fund provides only 60 per cent of loans; commercial banks must still cough up 40 per cent. If the loans turn bad, banks would still bear a sizeable share of the losses. This explains the reticence on the part of banks.

Third, most local governments are heavily indebted. It was unlikely that there would be strong credit demand from them to purchase housing units in an environment of (still) falling property prices.

03:14

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Above all, the reason TARP worked was that it was not used to purchase troubled assets but, rather, to inject equity into troubled financial institutions. The lesson for the Chinese authorities is that instead of squandering billions of dollars buying unsold properties, they should be injecting capital into systemically important institutions.

One argument against something like TARP in China is that it is simply far too expensive. The US Treasury financed TARP with government debt. With interest rates as low as they are in China today, it is incumbent on Beijing to borrow and inject capital in China’s beleaguered real estate companies, local government enterprises and other systemically important entities.

China’s persistent failure to end the property slump is not only hurting the parts of the economy that are directly linked to the real estate industry, it is also holding back a wider economic recovery. Chinese consumer spending in particular is suppressed as real estate constitutes about 60 per cent of household wealth in China. Without property prices stabilising, it is hard to imagine the economy recovering soon.

The Chinese authorities have little choice but to consider a TARP solution, even if it is unpopular. TARP was justified on the grounds that “to save Main Street, we have to save Wall Street”. In China, it is becoming increasingly clear that “to save ordinary folks, we have to save the real estate sector”.

Donald Low is senior lecturer and professor of practice, as well as director of leadership and public policy executive education at the Hong Kong University of Science and Technology