China's Dollar Nightmare: Fed Rate Cuts Could Spark Another Housing Bubble

Quantitative easing led to the Arab Spring, Chinese economic boom (though China stimulus was the main factor) and a commodities boom. Emerging markets peaked in 2011 as the effects wore off. China's housing market and the yuan were boosted by another rounds of quantitative easing and a Chinese stimulus effort in 2015/2016. With the Federal Reserve seemingly shifting to a dovish footing and Chinese home prices already lifting off on domestic stimulus expectations, there are already worries of a repeat.

21st Century: 社论丨美国股市或会深度调整 中国楼市仍需加强调控
Sogou: Editorial: U.S. Stock Market May Adjust Deeply China's Real Estate Market Still Needs to Strengthen Regulation

According to statistics from the Yi Ju Real Estate Research Institute, the house price in Baicheng was 13,867 yuan/square meter in the first four months of this year, up 14.5% year-on-year, an increase from January to March. From a city perspective, 19 out of 100 cities experienced a year-on-year increase of over 20% in housing prices from January to April, entering the "overheated housing price" range.

There is a special regulation cycle in China's real estate market, that is, the property market is forced to be regulated after overheating. However, as the downward pressure on the economy increases, the regulation will be released. As money is loosened and supply is suppressed during the regulation period, house prices will have a pulse-like rise cycle, which will gradually spread from first-tier cities to third-and fourth-tier cities, eventually forcing them to enter the "regulation cycle" again and again.

Comparatively speaking, the rise in house prices in the first four months of this year is not the result of the relaxation of the control cycle into the "pulse phase", because most of the control measures have not been cancelled, only some cities have slightly relaxed. Moreover, not far from 2017 when the regulation was started, the real estate market did not bear a long period of downward pressure.

The impulse to increase house prices in a short period of time is related to market expectations. From the second half of last year to the first quarter of this year, China has adopted a counter-cyclical adjustment policy. In terms of monetary policy, liquidity supply is relatively large, which is reflected in the amount of credit and the scale of social financing. Although monetary policy has returned to a stable and neutral state after the end of the first quarter, the expectation of rising house prices triggered by this period has expanded the sales volume of some "demand and concept" regional property markets, thus driving the house prices to continue to rise.

We should be highly alert to this unique phenomenon of house purchase. Some people have come up with the expectation of rising property prices because of their judgment on the trend of certain macro policies of the government, and have therefore made the decision to buy a house, leading to the self-realization of the expectation of rising property prices time and time again and falling into a bad cycle.

The trade war has brought new uncertainties to the global economy. Although exports do not contribute much to China's economic growth, they will also affect the economic operation. The market may expect China to take stimulus measures to expand investment, such as easing monetary policy and lifting the regulatory policy on the property market. This expectation has brought a strong supporting effect to the real estate market. Therefore, the regulation policy cannot be weakened during this period. On the contrary, the regulation management should be strengthened to prevent irrational expectations from interfering with market stability.

A new threat may be emerging. A few days ago, various economic indicators in the United States showed that economic growth had entered an inflection point, the effect of tax cuts was disappearing, the manufacturing index hit a 10-year low, combined with the damage caused by trade wars and greater uncertainty, the recession probability of the United States economy was increasing, and hedge funds were buying bonds. As the size of U.S. treasury bonds and corporate bonds have both set historical records, and the latter have also increased leverage significantly, the recession may result in a financial crisis.

This dangerous prospect may force the Federal Reserve to cut interest rates in a short period of time. Market expectations are more radical. Some investment institutions even expect the US federal funds rate to drop to zero in the next 18 months. However, as the economic recession continues to show, central banks in many economies have cut interest rates one after another. Therefore, the new round of quantitative easing by the Federal Reserve may come true. At that time, there may be a large amount of cheap liquidity flowing to emerging market countries again, such as China, resulting in a new round of upward pressure on the property market simply because of "rising expectations".

For a long time, the industry believed that there were two bubbles in the world, namely, the U.S. stock market and China's property market, both of which had overpriced. When Sino-US economic and trade are stable, these two bubbles can be gradually digested through time and may realize a soft landing. Now, because the trade war has brought about changes in manufacturing investment and trade demand, breaking the past balance, the U.S. stock market is likely to undergo a deep adjustment, and the direction of China's property market is also attracting much attention.

Since China has implemented effective capital control measures, it is difficult to sell properties and transfer assets, and the RMB will not depreciate significantly. If the U.S. stock bubble bursts, it is difficult to transmit it to China's property market. On the contrary, if external shocks and possible quantitative easing policies of the Federal Reserve need to be dealt with, China's domestic liquidity is more likely to support house prices than a hard landing. Therefore, at present and in the future, we should focus on preventing house prices from overheating.

In fact, most cities in China have no incentive to rise. For example, the property market in third-and fourth-tier cities has overdrawn excessively in the past few years, and future demand will be relatively weak, which may lead to an increase in inventories. Economic restructuring and corporate upgrading will affect employment and wage growth, and will not support the continued rise of already exorbitant housing prices. Judging from purchasing power and demand, the real estate market should enter a long-term adjustment period, which will be a gentle process. Therefore, if some "expectations" continue to surge, this gentle process will be complicated and may lead to ups and downs.

In response to the trade war, we must attach great importance to the impact of domestic and foreign economic situation and monetary environment on the real estate market. We must maintain the smooth operation of the real estate market, guard against the large-scale purchase of land by real estate enterprises through increased leverage, and push up the expectations of rising prices. We must also curb the attempts of some local governments to stimulate the real estate market to boost the local economy. In an uncertain environment, we should attach importance to maintaining the stability of the property market and avoid new stimulus and risks.