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China’s real estate mega-bubble could be bad news for global steel markets


BANGKOK, Thailand Put together more than $1 trillion in mismanaged bank credit, a housing market some say is in worse shape than it was in the U.S. before the sub-prime crash, rising inflation and a troubled labor market, and China's near-term future looks grim. But just as the country's state-driven economy has managed to absorb and overcome a number of challenges in recent decades, there seems to be a good chance that it will ride out the latest troubles.

China's overheated, dysfunctional real estate market is the government's biggest headache and the country's No. 1 topic of conversation. The problem is simple very few city dwellers, even among the new middle class, can afford to buy the kind of house that their rising incomes have led them to expect. The ratio of housing price to household income in China was about 91 in 2009, and as high as 201 in major cities like Beijing and Shanghai, according to statistics quoted in state-run media, compared with a ratio of about 31 in the United States.

Unlike in the United States, however, potential homebuyers haven't rushed to sign up for mortgages they can't afford—in fact, many buyers still pay in cash, and household debt levels are low. That's prevented the kind of housing price collapse that derailed the U.S. economy.

But cheap credit is creating problems in China, too state-owned banks have poured more than $1 trillion in loans into the economy since the 2008 financial collapse as Beijing pulled out all the stops to prevent a sharp slowdown in growth. It worked—gross domestic product (GDP) growth was 8.7 percent last year and 11.9 percent in the first quarter—but too much hot money has been diverted into the real estate sector, pricing ordinary Chinese out of the market. In an indication of the seriousness of the situation, the fundamental problems facing China's housing market could be worse than in the United States, a central bank advisor warned.

Any government that can't house its citizens faces the chop, but change at the ballot box isn't an option in China. Beijing is rumored to be on the verge of introducing a property tax in some cities to cool prices and is raising investment in affordable public housing, but the chances of a hard landing still look high.

But if China's housing problem is caused by outstripping wages, rising labor unrest is the product of a very different dynamic. A rare strike at a foreign-owned plant in China in May resulted in workers winning a 24-percent wage hike from the plant's owner, Japan's Honda Motor Co. Ltd. As well as demands for better pay, workers complained about unsociable working hours and faulty air conditioning. Those aren't the gripes of an unprivileged labor force grateful for any job they can get.

It may seem hard to believe, given China's 1.3-billion population, but many factories in the industrial heartland of south China are struggling to find enough young workers as development in other areas reduces the incentives to relocate and demographic pressures start to bite. That's driving wages higher and pushing up inflation.

What all this means for world metal markets is unclear. The good news for U.S. manufacturing is that China's troubles make it more likely that it will allow the value of its currency to rise against the dollar. A stronger yuan would raise consumers' purchasing power and help reduce inflationary pressures by taking some of the heat out of the export-oriented manufacturing sector. The bad news is that this level of uncertainty—both domestically and in the global economy—makes the country's ultra-cautious leadership likely to shy away from any major policy changes in the near future.

A big slowdown in China's property sector could be bad news for global steel markets if Chinese mills choose to raise exports rather than cut back production. Construction accounts for more than half of Chinese steel demand, and while construction steel products are a far smaller proportion of the country's exports, that could change. The U.S. trade action brought against Chinese pre-stressed concrete strand could be a harbinger of things to come.

The worst-case scenario is a sharp slowdown, leaving a good chunk of China's 600 million tonnes of steel capacity looking for a market. That seems unlikely to happen. China's leaders have proved adept at heading off bubbles in the past and are clearly willing to let supply outstrip demand when necessary, with an eye to the hundreds of millions of Chinese who will be entering the middle class over the next decades. And China's $2.4 trillion in foreign reserves gives it a pretty handy buffer against a slowdown.

China has a tough few months ahead and its troubles are likely to be a drag on both the U.S. economy and metal prices, just as its expansion underpinned the boom in steel and metal prices in the last decade. But a crash isn't in the cards.


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