In the past, real estate cycles have been closely linked to debt cycles in many different countries with imprudent lending having direct or indirect effects on real estate markets. Direct effects occur when excessive credit is provided for real estate purchase and/or development. The impact of excessive debt is not always first experienced in real estate but, if it results in financial crises, will eventually be felt because of recessionary impacts on housing and commercial real estate demand.

It’s little surprise then that world real estate-watchers are anxious to understand from whence the next financial crisis might spring. Some have focussed on China, noting that not only have Chinese investors have been extremely active in global real estate markets over the past decade, but levels of debt in the country increased by 575 per cent between 2006 and 2016, according to the Bank of International Settlements.

Concern is rising that this isn’t sustainable and might impact the global finance system or Chinese demand for international real estate. But how likely are problems to emanate from China and how globally contagious could they be?

Although China’s debt growth looks high, it’s all relative: China’s ratio of debt to GDP has grown from a very low level – and is still slightly lower than average of most advanced economies. Debt is US$20,000 per capita compared with US$145,300 in the US and US$134,000 in Japan. If China’s GDP continues to climb, the debt to GDP ratio could decrease.

Chinese debt is secured in the corporate, not household, sector. These corporations are largely state-owned so debt can therefore be managed differently to elsewhere in the world. Instead of defaulting, loans tend to be rescheduled, debt securitised, and ‘zombie’ companies merged with solvent ones. What household debt there is in China is on a par with that of an emerging economy at 44 per cent of GDP, compared with 80 per cent in the US and 74 per cent in all advanced economies.

Most importantly, 95 per cent of Chinese debt is domestic. Any problems with defaults and foreclosures are therefore unlikely to affect the global financial system. The state also has the means to intervene if necessary: China’s official reserve assets of US$ 3.2 trillion are more than enough to cover all external debt. Chinese debt is not, in itself, globally contagious – except inasmuch as any internal problems might affect cross-border investment demand.

All this points to Chinese debt being less of a problem then the headline numbers may suggest. But is there something else that is?

The Chinese are big savers, putting aside on average 36 per cent of their disposable income. With few places to deposit this cash, many have chosen to invest in housing, leading to many Chinese cities seeing annual double-digit residential price rises.

This local appetite has led to some investors seeking holdings outside China, in global cities. Although this has had significant impacts in certain neighbourhoods and on new-build markets, capital controls mean that the number of Chinese buyers is still relatively small, while additional controls introduced last year mean that Chinese investment in global real estate has already shrunk in many places. Cooling measures in China itself also mean the explosion in residential markets has begun to abate.

On balance, all this leads us to believe that, whatever issues face global real estate or financial markets this year, they are less likely to originate in China than some might think.

Further information

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