Where will the next landslide start?

Where will the land slip start? US housing again? Euro sovereign debt? Or will it be China – the great growth engine?

US Housing is certainly still a multi-trillion dollar nightmare. Both Freddie and Fannie are still haemorrhaging money. Fannie just lost another $11B this last quarter and is asking for another $8B tax-payer bail out. According to the Wall Street Journal Fannie on her own has lost $145B so far. Which is twice the amount she made in profits over the last 35 years.

Euro-land has indebted its people by another 750B euros and is being ‘advised’ that it won’t be able to to borrow this or find it under the sofa. It will have to print more than half of it. And that is IF all its member governments can burn to the stumps every progressive social policy of the post war period including a state pension (wave it goodbye people).

And then there is China. Seems so far away. Surely not for us to really try to understand? Leave it to a few policy wonks and finance anoraks. I say, you do so at your peril. Who had heard of American sub-prime till it broke your nose?

There is the tendency to still think that because China is a ‘centrally planned economy’ and a ‘communist dictatorship’ that these things guarantee the central government has absolute control and authority. I have argued for a long time that this is not true. That the central government has lost control of the bank/property bubble.

Now I am not a china expert. All I am doing is looking at the evidence available to me and interpreting as it seems best to me. Here are the latest warning signs that I see. These all come direct from Chinese (English version) news sources.

On March 15th, “three state-owned developers broke land auction records with the highest bids ever in Beijing, offering a combined 12 billion yuan for three building sites.” Three developers, £1.2 Billion purchase. All the developers are state-owned. State owned!

One of the developers paid 4.8 Billion yuan for their part, which worked out at 27,500 yuan (£2700) per meter for mixed residential development. Later that same day a different but still state owned developer CITIC bought another plot of land for even more, 5.24 Billion yuan.

Even the developers themselves are now having doubts. A developer who did not buy, said these prices were unaffordable. He said to make a profit the units would have to be sold for 45,000 Yuan per meter. That’s £4500 per square meter!

Three days after this auction, the government’s “Assets and Supervision Commission (SASAC) said it was ‘forced’ to issue ’emergency orders’ to 78 state-owned enterprises (SOEs), telling them to abandon the property business. SASAC Director Li Rongrong gave the companies, for which real estate is not a focus, 15 business days to begin an orderly exit.” (Caixin Online).

Decisive action. As of May 8th only one of the 78 State Owned Enterprises (SOE’s) this applies to had registered to wholly exit as required.

It’s worth asking who are the actual people involved? It gives you a picture of a power struggle. CITIC, the developer who paid the record 5.24 Billion yuan, for example, was founded by a man called Rong Yiren. His father was one of the richest businessmen in China in the 1930’s. Rong himself was Vice President of the People’s Republic of China from 1993 -1998. During the Cultural revolution Rong had been stripped of much of his wealth and branded “The Red Capitalist” by the Red Guards. So they got one thing right at least. But after Mao died Dung Xiaoping appointed Rung as advisor for the economic opening of China. Rung set up CITIC which quickly became a behemoth. In 2008 Rong and CITIC tried to buy Morgan Stanley before it was rescued by the FED.

So this man is one of the lions of Chinese capitalism and NOT a communist. So the real situation in China is that you have the central government trying to reign in the rampant property speculation, not of just a few ‘developers’, but of an elite who are themselves connected to the highest ranks of the revolution and its government, but have a capitalist, not communist loyalty. I think I know who I would be betting on in a fight between Rong Yiren and the Assets and Supervision Commission. I think it also becomes a little clearer why this year’s and previous National People’s Congresses, have done NOTHING effective to curb property speculation and neither has the Central Bank. They’re not the daddy any more.

The central communist authorities are not in control of finance even in Beijing and certainly their remit no longer extends to the provinces. And therein lies the biggest danger and where the landslide may start.

As the central government tries to reign in speculation and bank lending the developers are simply moving out of Bejing and the other first tier cities, to the second, third and forth tier cities. Why? According to Longfor, a Beijing developer who relocated to Changzhou, “The local government is welcoming us to build there.” There is land, wealthy people who want to get on the property investing ladder and the regional governments welcome them.

According to a land report last year, 81% of the land bought by real estate companies last year was in second and third tier cities; 175 million square feet.

And here is the bubble fact – already in second tier cities the prices have become too expensive for many developers. According to an article in Caixin, Pan Jun, president of developer Fantasia Holdings Group, is quoted as saying, “Only in third- and fourth-tier cities can land be acquired (at prices) that guarantee profits.” That is a bubble. Developers are talking about ‘turning the fire hoses on the overheated market in first and second tier cities.

Property and the lending used to buy it is out of control in China. Will it be where the slide starts? I don’t know enough to say. But is it going to give at some point. Yes, that seems certain.

So add China to the risk side of the equation along side Euro sovereign and bank default and US property. OF course on the other side we have…er… record unemployment in the UK?