the german mathematician David Hilbert once imagined a hotel with an infinite number of rooms. Even if all the rooms were occupied, she pointed out, the hotel could welcome a new guest, simply by asking him to move to the next room. One of the guests would move to the room of a second guest, freeing up a place for the newcomer. The second guest would move to a third guest’s room, and so on. With an infinite number of rooms, the sequence would never end.
During years, Chinese real estate developers have acted in a similar way. They sold flats long before they were built. The money raised for these flats was supposedly set aside to build them, just like every hotel room in Hilbert it was supposedly reserved for a guest. But the developers used the money for other purposes, such as buying land. When it came time to pay for construction, they sold more unbuilt flats and used that money instead.. Like the hotel Hilbert housed each guest in the next room, Chinese real estate developers built each pre-sold flat with the money from the next pre-sale. As long as there were always new buyers, the sequence could continue.
Unfortunately, Chinese developers are running out of rooms. Its sales in the 12 months through June fell 22% compared to the previous 12 months.. Pre-sales fell even faster. This painful brush with finitude has left many developers without enough cash to continue building the flats their clients have already bought. Chinese developers have broken ground on more than 6 billion square meters of real estate in the last three years. They have completed less than half that amount. In the past, home buyers could not do anything about these delays. After all, they had already handed over their money.
But even if they have paid their promoters, they continue to pay their banks. In recent months, angry buyers have threatened to default on their mortgages if developers don’t resume work on their flats. According to a document from crowdsourcing circulating on the Internet, this mortgage strike has spread to almost 100 cities and more than 320 projects, including a Dragon Citya Peacock City and one Phoenix City. More than 40 of these projects are in Zhengzhouthe capital of the province of Henan.
How far can boycotts go? There are some limits to its growth. Striking mortgage holders could end up on credit blacklists, hurting their access to loans. And in China, notes the rating agency S&PGlobalmost individuals cannot file for bankruptcy, since “your debts will never be forgiven”.
In a gloomy scenario, some 2.4 trillion yuan ($350 billion) worth of home loans could go sour, it reckons. S&PGlobal. This is about 1.3% of total bank lending, enough to endanger some small lenders, but not enough to pose a systemic threat to the banking system.
The real importance of boycotts lies elsewhere. They show that Chinese households no longer believe that an apartment purchased in advance will necessarily be delivered. This loss of faith is not limited to the protesters. It also manifests itself in the weakening of pre-sales, especially for promoters in difficulty. The reluctance to buy new homes poses a greater threat to the Chinese economy than the more conspicuous refusal to pay existing mortgages.. Weak sales will further reduce developers’ revenues, increasing construction delays and deepening disappointment.
How can this vicious circle be broken? In Henan, two state-owned companies (a developer and a “bad bank”) have created an aid fund to acquire projects in difficulty and carry them out. However, the local governments of China lack the money to restore trust, according to Andrew Batsonof the research company Gavekal Dragonomics. He believes that a credible plan will require the intervention of the central government. He is understandably reluctant to inject more resources into a sector that already represents too large a part of the economy. But the new money invested in stalled projects could pay a double dividend, helping to build unfinished flats and restore confidence in pre-sales.
In the long term, developers will need a less hectic business model. They will have to rely less on early sale of flats and on starting the next project before finishing the last one. In China, the demand for housing is huge. But it’s not infinite.
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