China’s mortgages pose risk to financial system

China’s mortgages pose risk to financial system

Zero-down payment mortgages in China suggest an increasingly risky Chinese financial system, with symptoms similar to those seen leading up to the U.S. credit crisis.

Home buyers all over China, from Guangzhou and Shenzhen in the south to Beijing in the north, are being offered zero-down-payment mortgages to cover their real estate acquisitions, recalling memories of the US subprime mortgages just before 2008.

According to Ding Shuang, senior China economist at Citigroup in Hong Kong, “the risk is severe for developers and third parties, because there is no commitment from home buyers. Zero down payment has appeared in the US before. It basically enabled unqualified people to buy houses.”

Housing risk rising in China

This practice, somewhere between the illegal and legal, is prompting the Chinese government to issue warnings in attempts at discouragement, heightening the sense that risk is brooding in China, where an oversupply of housing, still priced at levels higher than income permits, has made home sales decrease by 10.2% in value during 2014 to date.

The notion that there is an incentive in offering no down-payment deals along with a decreasing trend in real estate prices may appear disjunctive. Shortage of funds is still an issue and housing is still too expensive; prices are coming down from exorbitantly excessive levels.

To some, falling prices are seen as a sign of the Chinese government’s noteworthy ability to curb the housing bubble and slowly deflate it. However, as noted, home prices are still too high for most Chinese incomes. The problem with falling home prices is that, apart from probably making houses affordable at some point in the future, they also dampen growth.

Real estate accounts for a large slice of domestic demand, not just from the construction itself, but also from other things that go into a new house, such as home appliances and furniture. Since China’s GDP growth projections are already at their lowest since 1990, the balancing of housing bubble deflation and propping up an ailing economy is a walk on the tightrope.

Credit also a key topic in China

Ballooning real estate prices are not the only concern flagged by the occurrence of zero-down-payment home purchases. Credit is – or should be – a major concern as well.

China finance

The size of China’s shadow banking system relative to GDP. Source: South China Morning Post


As part of the 2014 crackdown on shadow banking (estimated at $7 trillion), “legitimate” bank lending went up by $140.5 billion in May this year in order to pick up the slack.

At the time, Yao Wei (Société Générale) stated that “For the next move, Beijing will closely watch downside risks in the property sector. If risks from the housing market still exist, the central bank will continue to use selective easing measures to support the market.” Those risks are indeed still present, so supportive, government-controlled easing measures should be expected.

While the combination of deflating the housing bubble and squeezing the shadow banking system ought to lower risk in the medium term, it is also very likely to slow growth. The risk of a meltdown is not entirely out of the picture.

Comparing China to the US ignores the fact that China’s closed capital markets and exchange rate control puts it in a different place altogether. The Party’s grip on (monetary) policy is much stronger. What looks like a rebalancing of two of the most talked-about sectors in China could be a small step in the right direction. Not to be mistaken, credit and housing are still distorted. But at least the distortion is being dealt with.

Categories: Asia Pacific, Finance

About Author

Mikala Sorenson

Mikala Sorensen is an Economist with regional expertise in Europe. She holds a first class honours degree in Philosophy, Politics and Economics from the University of York and a Masters in Economics from the University of Copenhagen. Having interned at the Danish OECD-delegation in Paris and currently working at the Danish Ministry of Finance, she specialises in politics and macroeconomics. Analysis for GRI is an expression of her own views.