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David McWilliams: A property crash in China would rock global system

There are 90 million empty apartments in China after years of a construction boom

‘The  debts of Evergrande, the Chinese real-estate developer, may signal the beginning of a slow property crash in China.’ Photograph: Alex Plavevski/EPA
‘The debts of Evergrande, the Chinese real-estate developer, may signal the beginning of a slow property crash in China.’ Photograph: Alex Plavevski/EPA

Is China the new Japan? The monumental debts of Evergrande, the Chinese real-estate developer, may signal the beginning of a slow property crash in China, which could engulf its ageing population much in the same way as the great Japanese property bubble of the 1980s torpedoed the Japanese economy over the past 20 years.

There are remarkable similarities between the performances of both economies. Japan's economic miracle occurred from 1950 to 1990. After the second world war, Japan was a country which had been internationally humiliated, industrially destroyed and traumatised by two nuclear strikes – the only society that has ever suffered such a fate. By 1968, Japan had become the second largest economy in the world. While the story of modern China's economic miracle is well known, Japan's story is not so universally appreciated, or possibly the details have been blurred by time.

Central to Japanese thinking is Japanese exceptionalism. They call it “Ninhonjinron”, loosely translated as “Japan is unique”. At times, Japanese idiosyncrasy can verge towards the xenophobic, with some people even maintaining that Japanese brains or intestines are different to those of westerners. At its core is the Japanese idea that western rationalism is incompatible with “wa” or social harmony. Underpinning such thinking is an aversion to, or a distrust of, individualism and, as a counterpart to the western idea of individual free will, the Japanese have an attachment to the idea of community and a genuflection to authority.

Japan's trade balance with the US moved from a deficit in the 1960s to a surplus of $10billion by 1978, surging to $60billion by 1987 and reaching $81billion by 2000

During the 1980s, this notion that Japan is different and had in some way unlocked the secret to economic dominance, featured strongly in the American psyche. Cash-rich Japanese investors bought American trophy assets such as the Exxon Building, the Rockefeller Centre and Columbia Pictures. Few things spark American xenophobia as much as foreigners buying the crown jewels, particularly foreigners who had been comprehensively beaten in the Pacific War. In the 1980s, many American second World War veterans were still sprightly and running large parts of corporate America, which were being out-thought, out-sold and out-bought by corporate Japan. Such a turnaround, led to the proliferation of bestsellers outlining how the road to Japanese global domination was paved with American commercial defeats.

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It is worth recalling the Japanese performance.

Japan's real GDP expanded four-fold in the 15-year period spanning 1958 to 1973, with an average annual growth rate in the range of 8-9 per cent based on World Bank figures. By 1968, less than 25 years after the destruction of the second World War, Japan had become the world's second largest economy – an extraordinary feat. As a complete energy importer Japan was badly hit by the 1973 oil shock, yet still managed 4 per cent growth on average until 1990. During this period of high growth, Japan developed world-leading manufacturing brands in electronics, shipbuilding, and cars, driven by the State-agency MITI, which picked industrial winners, a technique Korea has copied extremely successfully. Export-led growth played a significant role in Japan's transformation; the country's exports expanded at an annual rate of around 15 per cent throughout the 1960s.

The parallels with modern China are dramatic.

For example, Japan’s trade balance with the US moved from a deficit in the 1960s to a surplus of $10billion by 1978, surging to $60billion by 1987 and reaching $81billion by 2000. And of course, this became a massive issue in American politics, evidence of America falling behind. The economic surge saw rapid urbanization in Japan. In the Meiji era in the late 19th century, roughly 85 per cent of Japan’s population were rural. Urbanization rates rose sharply from around 50 per cent in 1945 to over 80 per cent by 1970 and 92 per cent as of 2020. Indeed, by 1972, one in four Japanese lived in the Tokyo-Osaka corridor.

This mirrors what we’ve seen in China, where the share of the population living in urban areas has surged from just 20 per cent in 1979 to around 64 per cent today. The declining share of agriculture in both countries is similar. In Japan, agriculture fell below 20 per cent of total output in 1956 and below 10 per cent in 1963. In China, we see agriculture falling below 20 per cent of total output around 1993 and below 10 per cent in 2009.

No one knows for sure how bad the underlying property problem is in China, but Evergrande is not the only huge Chinese property company in trouble

Of course, these huge trade surpluses had to be used and therefore both countries became huge lenders to the US. Japan remains the largest foreign holder of US debt in the world, with the Chinese close behind.

In 1985, in response to American concern about the weakness of the dollar against the Yen, the Japanese – at the Plaza Accord – were convinced to keep their interest rates low in an attempt to bring down the value of the Yen. This overheated an already booming local economy and the real-estate market took off to such an extent that, at its peak, the Imperial Palace in Tokyo was valued at more than the entire real estate of California. Tokyo property was selling for 350 times the equivalent of New York City property.

Japanese society changed profoundly: celebrity culture took off and consumers in the bubble economy were known as shinjinrui or new people, to distinguish themselves from their hard-working, parsimonious parents. In Tokyo, fashion, clubs, drugs, decadence and fun abounded. Art sold for fortunes and golf club membership soared, but by late 1989 the cracks started to appear. Heavily indebted property companies started to default as house and land prices started to fall. Then it crashed. In Ireland we know how this plays out.

Now consider China. Similarities with Japan are uncanny, right down to the population ageing at precisely the wrong time. Japan’s working-age population (aged 15-64) swelled to a peak back in 1995 just after the crash and has fallen by more than 10 per cent over the past 25 years. China now, following four decades of the one-child policy, finds itself facing the same problems. Births dropped by a significant 15 per cent in 2020 with the fewest number of births since 1961. Mounting housing and educational costs are depressing birth rates. It has taken Japan 30 years to recover from the crash of the bubble economy.

Could the same happen in China?

Of course it could. No one knows for sure how bad the underlying property problem is in China, but Evergrande is not the only huge Chinese property company in trouble. The Politburo are sticking to the one bad egg narrative, but that’s simply not possible in an economy where construction has expanded so quickly that it is estimated to be close to 30 per cent of GDP, higher than Ireland’s construction sector at the height of the Celtic Tiger.

Since 2008, China has been pumping up its property sector. There are now an estimated 90 million empty apartments in China. The writing is on the wall. Is it any wonder the Politburo is arresting boy band singers, celebrities and TV hosts, charging them with “un-Chinese” behaviour? Anything right now to deflect from the real issue: the imploding debt-soaked local economy.

If China goes the way of its neighbour across the East China Sea, all bets are off. The Japanization of the Chinese economy will be the most disruptive event in the region since China took off in the late 1980s. That episode changed the world and a devastating property crash in China would rock the very foundations of the global system.