china managing a propert 102581293

8/9/2019 China Managing a Propert 102581293

1/14

EMERGING MARKETS RESEARCH 7 June 20

PLEASE SEE ANALYST CERTIFICATIONS AND IMPORTANT DISCLOSURES STARTING AFTER PAGE 12

CHINA

Managing a property bubble

High housing prices have raised concerns about a property bubble and havebecome a socially divisive issue in China. In a way, investment demand has

crowded out consumer demand by driving up prices, and the problem is

exacerbated by a lack of public housing supply.

Wensheng Peng

+852 2903 2651

[email protected]

Jian Chang

+852 2903 2654

[email protected]

www.barcap.com

In our view, a combination of structural forces and distortions make China prone toa housing bubble, if policy is not carefully managed. Factors that have boosted

housing demand including demographics, urbanisation, income disparity and

high savings are likely to reverse or decline in intensity over the next 10 years.

The governments recent measures to cool the housing market focus on limitinginvestment demand and increasing the supply of public and low-cost housing. In

our view, this represents a regime shift in housing policy, and more measures

related to taxes, regulations and the public housing framework will likely be

rolled out.

We expect significant price declines in the next few quarters as investment demandis curtailed and public housing supply increases. We do not believe this will lead to

a hard landing for the economy, and we maintain our growth forecasts at 10.1% in

2010 and 9% in 2011. Any slowdown in private housing construction is likely to be

offset, to a significant extent, by public housing construction.

The impact on the banking sector also is likely to be limited, as banks exposure tothe housing sector is not large. In our view, even a sharp fall in property prices will

not cause a financial crisis at this point. China is not vulnerable to a sudden stop in

either external financing or bank lending to the non-bank sector.

However, distortions caused by a housing bubble and its eventual bursting,combined with an aging population a possible scenario for China in the next 10

years would be very damaging to the countrys long-term growth potential.

Hence, we take the view that the risk to the economy is much greater if policy is

not strong enough to check the bubble at this point than it would be if the

measures result in over-tightening.


2/14

Barclays Capital | China

7 June 2010 2

What are the main concerns?

After a short-lived correction in 2008, residential property prices saw a sharp turnaround in

2009-10, with house prices in major cities surging to levels that significantly exceeded the

previous peak in 2007. Official data show that property prices across the 70 largest cities

rose at a rapid pace in the first few months of 2010 (Figure 1). The rapid increase in prices

was not limited to just a handful of major, wealthy coastal cities; inland cities like Kunming

and Chongqing experienced significant price inflation as well.

Housing prices have risen to

record high levels

High housing prices have raised increasing concerns about a property bubble, as well as

social division. House prices have risen much faster than average incomes in major cities

over the past 10 years, with prices in Shanghai reaching 16-times average household

income, by our estimate (Figure 2). Partly also reflecting a lack of public housing provision,

the high housing prices have become socially divisive. In general, high-income groups and

the older generation, who are more likely to have bought housing units earlier, have

benefited from the housing boom, while the low-income people and the younger

generation have been left out. Indeed, at todays high prices, a large number of average

income earners are priced out of the market in the major cities.

Housing affordability has

become a socially divisive issue

From an investment point ofview, rental yields have declined sharply in the past few years,

as housing prices have increased at a much faster pace than rentals. In major cities, the

rental yield has come down to as low as 1-2% from over 5% in early 2000s. This suggests

that investors now seek a return on property holdings mainly from expected price

appreciation. We see a conflict between the demand for housing as a consumer good and

as an investment instrument. In our view, investment demand has become so large that it

crowds out consumer demand by boosting prices.

Investment demand crowds out

consumer demand

The authorities have recently taken steps to deal with rapid housing price inflation. As a

result, there are early signs of a cooling down, with a sharp fall in transaction volumes, but

prices have not declined significantly. At this point, investors seem to have two, potentially

opposing, concerns about the outlook for the property market in China and the associatedimpact on the economy. One concern is that a sharp decline in property prices leads to a

hard landing for the economy. Another concern is that prices do not adjust materially and

the bubble continues to build until it eventually bursts, leading to a major financial crisis in

Short-term versus longer-term

pain

Figure 1: Price inflation accelerated in 2010 Figure 2: Average house price to income ratio is high

0

4

8

12

16

20

Jan-07 Jul-07 Jan-08 Jul-08 Jan-09 Jul-09 Jan-10

-10

0

10

20

30

Apr-06 Apr-07 Apr-08 Apr-09 Apr-10

% m/m, 3mma, ar

Shanghai Na tional Beij ing

Shang hai Beijing Guang zhou

Source: CEIC, Barclays Capital Source: CEIC, Barclays Capital


3/14


7 June 2010 3

China. How significant are these concerns? To address this issue, we analyse forces driving

movements in housing prices and the significance of the recent policy measures, and offer a

view on the housing market outlook and its impact on the economy.

How we got to todays situation?

Private housing market in urban areas started in 1998, when the government reformed the

housing policy. Before 1998, most urban households received apartment units from their

employers (mostly government institutions and state-owned enterprises). The problem with

the old regime was limited space and the low quality of housing. As part of the reform in

1998, physical allocation was changed to monetary allowances, along with a massive

privatisation of the existing housing stock at heavily discounted prices. Subsequently, a

private housing market developed rapidly.

Housing reform in 1998 boosted

private housing market

In the past 12 years, the economy has gone through cyclical ups and downs, and monetary

conditions fluctuated significantly. Naturally the housing market was affected by these

developments. However, we believe structural factors and government policies have played

a much larger role in determining the long-term trend in housing prices. In brief,

demographics and urbanisation have underpinned housing demand, while a sharp rise insavings and a widened income gap led to strong investment demand for property. On the

supply side, a lack of public housing exacerbated imbalances in the private housing market.

Long-term housing price

inflation mainly driven by

structural forces

A main driving force for housing demand is the rise in the working-age population, which

has boosted per capita income growth. Chinas working-age population, defined as the

population older than 15 and younger than 65, has increased by 63% since 1980, compared

with growth of 4% in Japan and 38% in the US. In particular, the group of people, aged

between 20 and 59 years old, who most likely buy housing units, increased to 61% of the

total population in 2008, up from 53% in 1990 (Figure 3). In terms of the number of people,

this group rose from 600mn in 1990 to over 800mn in 2008. The working-age population is

projected to reach a peak in 2015 (Figure 4), and thereafter, demographics are likely to be

less favourable to economic growth and housing demand.

Rise in working-age population

boosts household income and

housing demand

Figure 3: Population growth boosts housing demand Figure 4: Working-age population is projected to peak soon

50

52

54

56

58

60

62

1990 1993 1996 1999 2002 2005 2008

600

650

700

750

800

850

900Share of Age 20-59 in total population (%)

0

200

400

600

800

1,000

1,200

1950 1965 1980 1995 2010 2025 2040

0

50

100

150

200

250

300China (LHS, Person mn)

Japan (Person mn)Population, age 20-59 (RHS, Person mn)

US (Person mn)



4/14


7 June 2010 4

Urbanisation has also been a driving force for housing demand in cities. The urbanisation

ratio (urban area population as a percentage of the total population) has risen from around

20% in the early 1980s to just below 50% currently. In the past 10 years, about 150mn

people migrated from rural to urban areas. As a result, the urban population increased

rapidly while the rural population shrank, even though the one-child policy is more

stringently implemented in cities (Figure 5). The government has adopted policies in recent

years to facilitate rural migrants integration into urban life. The process of urbanisation islikely to continue for many years, and this should support housing demand (Figure 6).

However, the pace of urbanisation may be constrained by the high cost of housing.

Urbanisation increases urban

housing demand

Income disparities increased sharply before stabilising in recent years owing to various

factors, including surplus labour, and an indicator is the widened gap between urban and

rural residents per capita income (Figure 7). This has generated a wealthy class that is a

small proportion of the total population, but accounts for a relatively large share in major

cities and in the high-end property market. To some extent, the luxury apartments in Beijing

and Shanghai are still affordable for the wealthy, even though more modest apartments are

barely affordable for the average local household.

Income disparities also play a

role

Investment demand for housing has been boosted by the sharp rise in savings in the past 10

years (Figure 8). A combination of factors, including the rise in the working-age population,

rapid income growth, widened income disparities and an underdeveloped social safety net,

have boosted savings (see China: Declining trade surplus: A structural view, 6 May 2010).

On the other hand, the closed capital account and underdeveloped domestic financial

markets limit investment opportunities for domestic residents. Property, therefore, has

become a favoured instrument for wealth accumulation. This is exacerbated by the strong

upward trend in housing prices (in contrast to the large swings in stock prices in recent

years), which has fostered a belief that housing prices can only go up.

Investment demand for housing

has risen strongly

A lack of supply, particularly of public housing, exacerbates the social problem. After the

housing reforms in 1998, the government pledged that economic, or affordable, housing

should be a significant part of the supply. Over the years, however, its share in the total

housing supply declined sharply to about 6% in 2008 from 28% in 1999. In 2007, the

government outlined new initiatives to increase the supply of public housing, but a lack of

incentives for local governments and developers inhibited implementation.

A lack of public housing

exacerbates the problem

Figure 5: Urban population has risen rapidly Figure 6: and urbanisation has a long way to go

0

200

400

600

800

1,000

1,200

1,400

1,600

49 53 57 61 65 69 73 77 81 85 89 93 97 01 05 09

Person mn

0

20

40

60

80

100

20 30 40 50 60 70 80 90 00

urban population inof total

Japan

China

19852010

Population: Urban Population: Rural

https://live.barcap.com/go/research/content?contentPubID=FC1594624https://live.barcap.com/go/research/content?contentPubID=FC1594624


5/14


7 June 2010 5

In our view, a combination of structural factors demographics, urbanisation, income

disparities and high savings make China prone to a housing bubble, if policy is not

carefully managed. Some of these factors, which have supported housing demand up to

now, are likely to start to reverse in the next decade. In particular, the working-age

population is expected to peak around 2015. In addition, income disparity is likely to

narrow, and the saving rate to drop (see China: Declining trade surplus: A structural view, 6May 2010), Hence, in our view at some point in the next 10 years, both consumer demand

and investment demand for housing will likely decelerate.

Housing market in China is

prone to a bubble

So far we have not discussed monetary policy, as we believe fundamental driving forces and

distortions in the housing market go beyond monetary policy. Mortgage loans have grown

strongly along with housing price inflation in the past 10 years. However, in our view the co-

movement stemmed more from strong housing demand and economic optimism, which

are reflected in housing prices and then in bank lending, rather than a credit supply-driven

property price boom. Nevertheless, changes in monetary conditions may have a cyclical

impact on the housing market. In particular, the strong expansion of money and credit in

2009 probably raised inflationary expectations and reinforced investment demand for

property. Hence, in our view, regulatory and structural measures should be the maininstruments to control a property bubble, while monetary policy should guard against

playing an accelerating role.

Monetary conditions are not the

driving force

How significant is the recent policy response?

The State Council issued a policy statement on housing on 15 April. Broadly speaking, the

measures focus on two areas, one is to limit investment demand for housing, and the other

is to increase supply, particularly via public housing construction (Figure 9). An increase in

public housing supply will help to meet housing demand of low-income groups, and by

increasing the total supply of housing units, also will likely dampen private housing prices,

in our view. Excess investment demand is often a driving force in a housing bubble, and the

new limits on this front are of key importance, in our view.

New housing policy to limit

investment demand and raise

supply of public housing

Figure 7: Income disparity rose in the past two decades Figure 8: Savings increased markedly in the past 10 years

0

2,000

4,000

6,000

8,000

10,000

12,000

14,000

16,000

18,000

85 88 91 94 97 00 03 06

1.5

1.7

1.9

2.1

2.3

2.5

2.7Urban (CNY, LHS)

Rural (CNY, LHS)

Urban-rural ratio (%, RHS)

0

2,000

4,000

6,000

8,000

10,000

12,000

14,000

16,000

18,000

85 88 91 94 97 00 03 06

1.5

1.7

1.9

2.1

2.3

2.5

2.7S/GDP

30

35

40

45

50

55

1995 1997 1999 2001 2003 2005 2007 2009

%Urban (CNY, LHS)

Rural (CNY, LHS)

Urban-rural ratio (%, RHS)

S/GDP

https://live.barcap.com/go/research/content?contentPubID=FC1594624https://live.barcap.com/go/research/content?contentPubID=FC1594624


6/14


7 June 2010 6

Specifically, to limit investment demand, the State Council policy statement instructed that:

1) for first-time homebuyers of units over 90sq m, the down payment was raised to 30%

(from 20%); 2) for second-home mortgages, the down payment raised to 50% from 40%

and the mortgage rate to no less than 1.1x the standard rate; 3) for the third-home (or

above) mortgages, the down payment and mortgage rate should be substantially higher;

4) local governments could impose special and temporary policies to curb property price

speculation; and 5) it would speed up the formulation and implementation of a propertyconsumption tax and would adjust taxes on property-related income.

Down-payments and interest

rates are raised for second-home

mortgages

The statement stressed the need to increase housing supply, particularly via construction of

public rental and affordable housing. The planned land supply for residential property

development increased sharply to 180,000 hectares in 2010, up from the actual supply of

76,500 hectares in 2009 and an average of 54,650 hectares in the previous five years

(Figure 10). In particular, the land designated for public housing construction was raised to

24,000 hectares, more than double the 2009 allotment. Of the land for private housing

development, 80,000 hectares was set for medium- and small-sized housing units. Indeed,

there are specific requirements on fulfilment of land allocation for different types of

residential development by the local governments (Figure 11). The aim is to increase the

use of land for public housing and medium- and small-sized private housing at a minimumof 70% of the total land allocated for residential purpose.

Land supply for residential

housing is increased sharply

On 19 May, the Ministry of Housing and Urban-Rural Development signed letters of

responsibility with the provincial and municipal governments on 2010 public housing work

Public housing construction is

set to increase sharply

Figure 9: The government policies since April 2010

Date Agency Major policy measures or announcements

31-May State Council Approved the NDRCs plan for a gradual reform of the property tax26-May State Tax

Administration To tighten the collection of the land value appreciation tax from developers, including guidelines on the

technical details for calculating the amount due

Signed letters of responsibility with all the provinces and cities on 2010 public housing construction Local governments will be responsible for supervision, financing, land supply, and ensure the completion

of the 2010 target

19-May Ministry ofHousing

The nationwide target is 3mn units of public housing supply and 2.8mn units of reconstructed slum-areahousing supply

26-Apr CSRC Chinese real estate companies planning to raise capital through share issuances will have to be jointlyapproved by both the Securities Regulatory Commission and the Ministry of Land and Resources

19-Apr Ministry ofHousing

Property developers are ordered not to take deposits for the sale of uncompleted apartments withoutproper approval.

Developers approved to conduct sales of uncompleted apartments must make information about theprice and number of units publicly available

15-Apr Ministry ofLand

Significantly increase land supply for (public) housing construction in 2010. Planned housing supply is1.4x the actual land supply in 2009. Planned supply for public housing is double the actual supply in 2009

Issued a notification entitled "to resolutely curb the excessively fast property price rise in some cities For first home of size over 90sqm, raise mortgage down payment to 30% from 20% For second home purchase, raised mortgage down payment to 50% from 40% , mortgage rate not lowerthan 1.1x benchmark lending rate For third and above home purchase, down payment and mortgage rate will be substantially higher Banks in cities with excessive property price gains are advised to stop mortgage lending to third-home

buyers, and to buyers without residence approval

To strengthen property market supervision, cracking down illegal acts, such as land hoarding and salesdelays by developers

To increase the supply of housing, particularly of public and affordable housing

14 and17-Apr

State Council

Demand provincial governments to take overall responsibility in stabilising housing prices and ensuringhousing supply, and municipal governments are responsible for policy implementation

Note: For other key policy responses in 2008-09, see Figure 1 in the Increase supply to limit property price inflation, Global Economic Weekly, 18 December 2009.

Source: www.xinhuanet.com, Barclays Capital


7/14


7 June 2010 7

objectives. The government is targeting public housing construction in 2010 at 3mn units, a

substantial increase from 2009. According to this plan, the size of public housing

construction in 2010 will likely be 180mn square metres (assuming an average size of

60 sqm for public housing), equivalent to over 30% of total residential completions in 2009.

It is unlikely that the 3mn units will be completed in 2010, considering that the impetus

increased only recently. But there is no doubt, in our view, that public housing will increase

over time to meet a substantive part of the total housing demand. We have seen specificfollow-up measures from some local governments. In particular, the municipal government

of Chongqing, one of the four largest cities in China, announced a target of an increase in

public housing to meet one-third of the total housing demand. Shanghai has also launched

an initiative on public rental housing.

We note that in addition to the specific measures, the provincial governments have been

asked to take responsibility for stabilising housing prices and ensuring housing supply.

Some in the market have questioned the sustainability of the housing measures. In our view,

the recent measures represent a regime shift in housing policy, and we believe the

government will not easily change course for three reasons: 1) high housing prices have

become a social and political issue; 2) a significant decline in the housing market will not

cause a hard landing for the economy (see below); and 3) a rise in the volume of land saleswill help to limit the impact of a fall in land prices on local government financing.

A regime shift in housing policy

Following the recent policy announcement, transaction volumes in the private housing

market have declined sharply in major cities. We expect a significant decline in housing

prices, possibly 20-30% in the next few quarters. If the policy objective of returning housing

to an affordable commodity for most people is to be achieved, there must be a significant

retreat. This will likely happen as investment demand is curtailed and supply, particularly of

public housing, is increased over time.

We expect a significant price

decline

What are implications for the economy?

How will the economy be affected by a correction in the housing market? For any sector ofthe economy, a downturn must affect some stakeholders. In this case, some property

developers may face cash flow problems as sales drop, and the quality of banks property-

Housing correction is not goingto cause a hard landing or

double dip in the economy

Figure 10: Land supply planned for residential developmentrises sharply in 2010

Figure 11: with specific requirements on its allocation fordifferent segments of the market

low-rental housing

(4%)

0

40

80

120

160

200

2010 (planned) 2009 (actual)

Hectares, thLand supply for housing

Land supply for public housing economic housing

(9%)

slum area

reconstruction

(20%)

small & medium

size housing (44%)

Large & deluxe size

housing (23%)



8/14


7 June 2010 8

related loans may be affected. However, from a business cycle perspective, the economy is

also at a strong point, and some slowdown in overall growth may be desirable to control

inflationary pressures. We do not believe that a significant decline in housing prices will

cause a hard landing or double dip in the economy. Moreover, in our view, even a collapse

in the housing market, at this point, will not cause a financial crisis in China. On the other

hand, we believe that the damage caused by a property bubble to the long-term growth

potential of the economy is often understated, and that public policy should guard againstbeing unduly influenced by exaggerated short-term concerns.

Near-term impact on the economy is often overstated

We take a sanguine view on the impact of a housing price fall on consumption. Any wealth

effects associated with changes in housing prices are likely to be limited, in aggregate terms.

First, about half of the population lives in rural areas, where the property market is not active

and changes in housing prices in urban areas do not have a significant impact. Second,

while a fall in prices likely has a negative wealth effect for existing homeowners, potential

buyers would benefit from it. Low-income people, the younger generation and new urban

residents migrating from rural areas would be able to save less for down-payments and

hence have more money for consumption, and these people tend to have a higherpropensity to consume than high-income people. Figure 12 shows that household

consumption growth historically has show little correlation with the index measuring

property market conditions. This is supported by an earlier empirical study (see Property

Market and the Macroeconomy of Mainland China, Pacific Economic Review, April 2008).

Impact on household

consumption is likely to be

limited

The impact on private investment could be more significant, but should not be large on

overall growth, in our view. Housing construction and investment has accounted for about a

quarter of fixed asset investment in recent years, and historically it has been positively

correlated with housing market conditions (Figure 13). As total investment has accounted

for about 44% of GDP in recent years, property construction and investment made up

about 11% of GDP.

Impact on private housing

construction can be significant

We provide broad estimates of the implications for the growth outlook. For 2010, our

current projection of real GDP growth at 10.1% already includes a reduction in investment

contribution to growth from 8pp in 2009 to 5pp this year (Figure 14), reflecting credit

...but public housing construction

is a partial offset

Figure 12: Consumption shows little correlated with propertymarket conditions

Figure 13: but real estate investment is significantlyaffected by changes in housing market conditions

0

5

10

15

20

25

Mar-04 Mar-05 Mar-06 Mar-07 Mar-08 Mar-09 Mar-10

90

95

100

105

110

0

10

20

30

40

50

Mar-04 Mar-05 Mar-06 Mar-07 Mar-08 Mar-09 Mar-10

90

95

100

105

110

Household consumption (% y/y)

Real estate climate index

`

FAI (% y/y)Real estate investment (% y/y)Real estate climate index



9/14


7 June 2010 9

tightening and restrictions on new projects as well as a high base. Out of the 3pp decline,

0.75pp is attributable to property investment. Considering the latest developments, we

assume now a sharp fall in private housing construction growth to a low single-digit rate by

Q4. On the other hand, we assume the 3mn public housing target for 2010 will consist

roughly of one-third each for newly started, ongoing, and completed units, implying more

than 100% growth in public housing investment in 2010. These give rise to overall real

property investment growth of around 16% in for 2010 as a whole (compared with 30%y/y in Q1). We then derive an estimate of the change in property investment contribution to

GDP growth in 2010 from 2009 at -0.91pp, compared with -0.75pp already factored in. This

suggests a downside risk of around 0.2pp to our overall growth forecast of 10.1% for 2010.

Figure 14: Implication for our growth forecast

2009 2010F 2011F

Current growth forecast

Real GDP (% ) 8.7 10.1 9.0

Contribution to GDP growth

Consumption (pp) 4.6 5.4 4.6Gross Capital Investment (pp) 8.0 5.0 4.4

Change in contribution to GDP growth (pp) 3.9 -3.0 -0.6

of which property investment (pp) 1.1 -0.8 -0.2

Net Exports (pp) -3.9 -0.3 0.0

Downside risk due to the latest property tightening policy

Real property investment (%y/y) 24.0 15.7 7.0

Private (%y/y) 10.5 0.0

Public-related housing (%y/y) 100.0 70.0

Change in property investment contribution to GDP growth (pp) -0.9 -0.9

Decline in growth compared with the current forecast (pp)

Real GDP (%) -0.2 -0.7Note: Contribution to GDP growth = % growth rate * share in GDP in the previous yearSource: CEIC, Barclays Capital

For 2011, we assume investment in one-third of the 3mn public housing units targeted in

2010 will fall mainly in 2011, with a further 2-2.5mn new units to be started in the year

(according to the plan announced in late 2008). This translates into a moderation in public

housing investment growth from the high base in 2010. We also assume a slowdown in

private property investment to zero growth for the year as a whole. Putting these together,

we estimate a downside risk of 0.7pp to our forecast of 9% GDP growth in 2011. However,

we believe the overall case is not strong enough to change our forecast. First, the

government is pushing for increases in small and medium-sized private housing

construction, and more generally in overall housing supply. This is in contrast to the

housing market tightening in 2007, when the policy focused on slowing property

investment via controlling land supply. Even in that episode, property investment growth

dropped to single-digit growth in 2008 only for a few months (Figure 15). In other words,

our assumption of zero growth in private housing is a rather extreme case. Secondly, policy

could be relaxed in other areas in 2011 if needed, such as boosting investment

infrastructure and public utilities. Overall, we believe our scenario serves to supports our

view of no hard landing in the Chinese economy.

We see small downside risk to

our growth projection


10/14


7 June 2010 10

A property collapse at this point will not cause a financial crisis

A significant drop in housing prices and slowdown in property transactions will likely

worsen banks asset quality via the impact on mortgage delinquencies and loans to

developers. However, we believe a banking crisis is unlikely even in the event of a collapse in

property prices.

First, while banking sectors exposure to the property sector has increased over time,

especially in 2009, it is from a low base. The direct exposure, measured by the share of

mortgage loans and loans to developers in total loans, stood at about 20% in Q1 10 (Figure

16). Their indirect exposure, eg, lending using land and commercial properties as collateral,

however, is likely to be significant. Nevertheless, the repayment capacity of borrowers

depends more upon on their cash flow than changes in values of the collateral. Hence, as

long as the economy is not trapped in a prolonged period of low growth, the concern is

unlikely to be of systematic importance.

Banks exposure to the property

sector is not large

Second, China does not rely on external financing and, therefore, is not vulnerable to a

sudden stop in external financing flows. A common feature of the financial crises in other

countries in recent years is that in most cases, external financing was involved to a

significant degree in the boom period, and a sudden stop in this financing often triggered a

crisis. China has been a significant net exporter of capital, and capital inflows are mostly in

the form of foreign direct investment. Furthermore, its external investments are mostly in

liquid instruments such as foreign government bonds.

China is not vulnerable to a

sudden stop in either external

financing

Domestically, the banking system has a large pool of liquidity locked up in required reserves,

which can be released in times of need. Moreover, Chinese banks are majority owned by the

state, and in our view, it is hard to imagine that a wiping out of banks capital position due

to loan losses would lead to a sudden stop in bank lending to the non-bank sector, which is

often an important accelerator of a financial crisis.

or in bank lending to the

nonbank sector

This does not mean that there is no price to be paid in association with loan losses. The

government policy favours the banking system via interest rate regulation, which givesbanks an unusually large lending spread. However, this comes at a cost to households,

which receive a low, regulated deposit interest rate. Moreover, in the event the government

needs to recapitalise banks, households will be the ultimately bearer of the costs.

Households ultimately bear the

cost of bad loans

Figure 15: Property lending relative to total loans and NGDP Figure 16: Banks exposure to the housing sector is not large

0

5

10

15

20

25

30

35

40

45

Apr-04 Apr-05 Apr-06 Apr-07 Apr-08 Apr-09 Apr-10

Real estate investment (% y/y)

10

14

18

22

Ma r-05 Dec-05 Sep-06 Jun-07 Ma r-08 De c-08 Sep-09

Real estate investment,deflated by PPI (% y/y)

Real estate loan /total outstanding loan (%)

Real estate loan /GDP (%)



11/14


7 June 2010 11

Longer-term damage of a housing bubble is often understated

A housing bubble, if unchecked, would increase distortions and inhibit structural

adjustments in the economy, and its eventual bursting, particularly if associated with a

change in demographic trends, would be very damaging to the long-term growth potential

of the economy. In our view, this is a bigger risk than a financial crisis.

First and foremost, rapid housing price inflation has created a social problem, as investmentdemand crowds out consumer demand for housing. Also, the wealth gap between low-

income and high-income groups is exacerbated by housing price increase, as the latter

group is more likely to have bought and invested in properties. If price inflation continues,

social discord will only rise.

Housing bubble increases socialdiscord

Second, there is also an intertemporal element. In general, the older generation tends to

benefit from housing price inflation while the younger generation tends to suffer. As assets

are claims against future goods and services, the inter-generation wealth gap will only

exacerbate the burden of the younger generation, which will increase as the population

ages. In other words, the older generation (people in their 40s and 50s) will take too big a

share of resources at the expense of the younger generation. This would distort incentives

and reduce the innovative capacity of the economy, which will be very important as asource of economic growth after working-age population peaks in 2015.

Inter-generational gap

compounds the problem of

population aging

Third, high housing prices in cities are not conducive to urbanisation, which has been an

important driver of economic growth in China. The importance of urbanisation as a source

of growth will only increase as population ages and surplus labour disappears.

Low housing affordability hurts

urbanisation

Fourth, strong investment demand means a lot of savings are put into property holdings

with questionable long-term returns for individual investors and, even more so, for the

economy as a whole. As demographics change and savings decline, both consumer and

investment demand for housing will decelerate, and any bubble will eventually burst. For the

economy as whole, a housing bubble leads to inefficient resource allocation and damages

the longer-term growth potential.

Excess investment in housing

causes inefficient allocation of

resources


12/14


7 June 2010 12

EMERGING MARKETS RESEARCH

Piero GhezziHead of Economic and Emerging Markets Research

+44 (0)20 3134 [email protected]

EM Global

Michael Gavin

Head of Emerging Markets Strategy

+1 212 412 5915

[email protected]

Andrea Kiguel

EM Strategist

+1 212 412 5965

[email protected]

Asia

Jon Scoffin

Head of Research, Asia-Pacific

+65 6308 3217

[email protected]

Peter Redward

Head of Emerging Asia Research

+65 6308 3528

[email protected]

Wensheng Peng

Head of China Research

+852 2903 2651

[email protected]

Jian Chang

RegionalEconomist China, Hong

Kong

+852 2903 2654

[email protected]

Wai Ho Leong

SeniorRegional Economist Korea,

Malaysia, Singapore, Taiwan

+65 6308 [email protected]

Prakriti Sofat

Regional Economist Indonesia,

Philippines, Sri Lanka, Vietnam


Rahul Bajoria

RegionalEconomist India, Malaysia,

Thailand


Matthew Huang

Strategist North Asia

+65 6308 3093

[email protected]

Kumar Rachapudi

Strategist South Asia

+65 6308 3383

[email protected]

Krishna Hegde

Credit Strategist

+65 6308 2979

[email protected]

Avanti Save

Credit Strategy

+65 6308 3116

[email protected]


13/14

Analyst Certification(s)We, Wensheng Peng and Jian Chang, hereby certify (1) that the views expressed in this research report accurately reflect our personal views about any or

all of the subject securities or issuers referred to in this research report and (2) no part of our compensation was, is or will be directly or indirectly related tothe specific recommendations or views expressed in this research report.

Important DisclosuresFor current important disclosures regarding companies that are the subject of this research report, please send a written request to: Barclays Capital

Research Compliance, 745 Seventh Avenue, 17th Floor, New York, NY 10019 or refer to https://ecommerce.barcap.com/research/cgi-bin/all/disclosuresSearch.pl or call 212-526-1072.Barclays Capital does and seeks to do business with companies covered in its research reports. As a result, investors should be aware that Barclays Capital

may have a conflict of interest that could affect the objectivity of this report. Any reference to Barclays Capital includes its affiliates. Barclays Capital and/oran affiliate thereof (the "firm") regularly trades, generally deals as principal and generally provides liquidity (as market maker or otherwise) in the debt

securities that are the subject of this research report (and related derivatives thereof). The firm's proprietary trading accounts may have either a long and /or short position in such securities and / or derivative instruments, which may pose a conflict with the interests of investing customers. Where permittedand subject to appropriate information barrier restrictions, the firm's fixed income research analysts regularly interact with its trading desk personnel to

determine current prices of fixed income securities. The firm's fixed income research analyst(s) receive compensation based on various factors including,but not limited to, the quality of their work, the overall performance of the firm (including the profitability of the investment banking department), theprofitability and revenues of the Fixed Income Division and the outstanding principal amount and trading value of, the profitability of, and the potentialinterest of the firms investing clients in research with respect to, the asset class covered by the analyst. To the extent that any historical pricing information

was obtained from Barclays Capital trading desks, the firm makes no representation that it is accurate or complete. All levels, prices and spreads arehistorical and do not represent current market levels, prices or spreads, some or all of which may have changed since the publication of this document.Barclays Capital produces a variety of research products including, but not limited to, fundamental analysis, equity-linked analysis, quantitative analysis,

and trade ideas. Recommendations contained in one type of research product may differ from recommendations contained in other types of researchproducts, whether as a result of differing time horizons, methodologies, or otherwise.


14/14

This publication has been prepared by Barclays Capital, the investment banking division of Barclays Bank PLC, and/or one or more of its affiliates asprovided below. This publication is provided to you for information purposes only. Prices shown in this publication are indicative and Barclays Capital isnot offering to buy or sell or soliciting offers to buy or sell any financial instrument. Other than disclosures relating to Barclays Capital, the informationcontained in this publication has been obtained from sources that Barclays Capital believes to be reliable, but Barclays Capital does not represent orwarrant that it is accurate or complete. The views in this publication are those of Barclays Capital and are subject to change, and Barclays Capital has noobligation to update its opinions or the information in this publication. Barclays Capital and its affiliates and their respective officers, directors, partners andemployees, including persons involved in the preparation or issuance of this document, may from time to time act as manager, co-manager orunderwriter of a public offering or otherwise, in the capacity of principal or agent, deal in, hold or act as market-makers or advisors, brokers or commercialand/or investment bankers in relation to the securities or related derivatives which are the subject of this publication.The analyst recommendations in this report reflect solely and exclusively those of the author(s), and such opinions were prepared independently of anyother interests, including those of Barclays Capital and/or its affiliates.Neither Barclays Capital, nor any affiliate, nor any of their respective officers, directors, partners, or employees accepts any liability whatsoever for anydirect or consequential loss arising from any use of this publication or its contents. The securities discussed in this publication may not be suitable for allinvestors. Barclays Capital recommends that investors independently evaluate each issuer, security or instrument discussed in this publication and consultany independent advisors they believe necessary. The value of and income from any investment may fluctuate from day to day as a result of changes inrelevant economic markets (including changes in market liquidity). The information in this publication is not intended to predict actual results, which maydiffer substantially from those reflected. Past performance is not necessarily indicative of future results.This communication is being made available in the UK and Europe to persons who are investment professionals as that term is defined in Article 19 of theFinancial Services and Markets Act 2000 (Financial Promotion Order) 2005. It is directed at, and therefore should only be relied upon by, persons whohave professional experience in matters relating to investments. The investments to which it relates are available only to such persons and will be enteredinto only with such persons. Barclays Capital is authorized and regulated by the Financial Services Authority ('FSA') and member of the London StockExchange.

Barclays Capital Inc., US registered broker/dealer and member of FINRA (www.finra.org), is distributing this material in the United States and, inconnection therewith accepts responsibility for its contents. Any U.S. person wishing to effect a transaction in any security discussed herein should do soonly by contacting a representative of Barclays Capital Inc. in the U.S. at 745 Seventh Avenue, New York, New York 10019. This material is distributed inCanada by Barclays Capital Canada Inc., a registered investment dealer and member of IIROC (www.iiroc.ca).Subject to the conditions of this publication as set out above, Absa Capital, the Investment Banking Division of Absa Bank Limited, an authorised financialservices provider (Registration No.: 1986/004794/06), is distributing this material in South Africa. Absa Bank Limited is regulated by the South AfricanReserve Bank. This publication is not, nor is it intended to be, advice as defined and/or contemplated in the (South African) Financial Advisory andIntermediary Services Act, 37 of 2002, or any other financial, investment, trading, tax, legal, accounting, retirement, actuarial or other professional adviceor service whatsoever. Any South African person or entity wishing to effect a transaction in any security discussed herein should do so only by contactinga representative of Absa Capital in South Africa, 15 Alice Lane, Sandton, Johannesburg, Gauteng 2196. Absa Capital is an affiliate of Barclays Capital.Non-U.S. persons should contact and execute transactions through a Barclays Bank PLC branch or affiliate in their home jurisdiction unless localregulations permit otherwise.In Japan, foreign exchange research reports are prepared and distributed by Barclays Bank PLC Tokyo Branch. Other research reports are distributed toinstitutional investors in Japan by Barclays Capital Japan Limited. Barclays Capital Japan Limited is a joint-stock company incorporated in Japan withregistered office of 6-10-1 Roppongi, Minato-ku, Tokyo 106-6131, Japan. It is a subsidiary of Barclays Bank PLC and a registered financial instruments firmregulated by the Financial Services Agency of Japan. Registered Number: Kanto Zaimukyokucho (kinsho) No. 143.Barclays Bank PLC Frankfurt Branch is distributing this material in Germany under the supervision of Bundesanstalt fuer Finanzdienstleistungsaufsicht(BaFin). This material is distributed in Malaysia by Barclays Capital Markets Malaysia Sdn Bhd.

Barclays Bank PLC in the Dubai International Financial Centre (Registered No. 0060) is regulated by the Dubai Financial Services Authority. Barclays BankPLC-DIFC Branch, may only undertake the financial services activities that fall within the scope of its existing DFSA licence.Barclays Bank PLC in the UAE is regulated by the Central Bank of the UAE and is licensed to conduct business activities as a branch of a commercial bankincorporated outside the UAE in Dubai (Licence No.: 13/1844/2008, Registered Office: Building No. 6, Burj Dubai Business Hub, Sheikh Zayed Road, DubaiCity) and Abu Dhabi (Licence No.: 13/952/2008, Registered Office: Al Jazira Towers, Hamdan Street, PO Box 2734, Abu Dhabi).Barclays Bank PLC in the Qatar Financial Centre (Registered No. 00018) is authorised by the Qatar Financial Centre Regulatory Authority. Barclays BankPLC-QFC Branch may only undertake the regulated activities that fall within the scope of its existing QFCRA licence. Principal place of business in Qatar:Qatar Financial Centre, Office 1002, 10th Floor, QFC Tower, Diplomatic Area, West Bay, PO Box 15891, Doha, Qatar.This information has been distributed by Barclays Bank PLC. Related financial products or services are only available to Professional Clients as defined bythe DFSA, and Business Customers as defined by the QFCRA.IRS Circular 230 Prepared Materials Disclaimer: Barclays Capital and its affiliates do not provide tax advice and nothing contained herein should beconstrued to be tax advice. Please be advised that any discussion of U.S. tax matters contained herein (including any attachments) (i) is not intended orwritten to be used, and cannot be used, by you for the purpose of avoiding U.S. tax-related penalties; and (ii) was written to support the promotion ormarketing of the transactions or other matters addressed herein. Accordingly, you should seek advice based on your particular circumstances from anindependent tax advisor.

Copyright Barclays Bank PLC (2010). All rights reserved. No part of this publication may be reproduced in any manner without the prior writtenpermission of Barclays Capital or any of its affiliates. Barclays Bank PLC is registered in England No. 1026167. Registered office 1 Churchill Place, London,E14 5HP. Additional information regarding this publication will be furnished upon request. AS4738

china managing a propert 102581293

Documents