Moody’s: China’s economy faces heightened risks from a potential future property downturn
Moody’s Investors Service says that China’s economy would face heightened risks from a potential future property downturn compared to when Moody’s previously analyzed the macroeconomic importance of the country’s real estate sector in 2014.
At the same time, the scope of the Chinese authorities for mitigating such an impact through fiscal and monetary policy has become more limited.
Moody’s conclusions were contained in a just-released report on real estate in China, “Economy At Higher Risk From Potential Property Downturn”.
“Around 25%-30% of China’s GDP are connected to final demand from the property and construction sectors,” says Michael Taylor, a Moody’s Managing Director. “This creates the potential for developments in the property market to have large macroeconomic effects.”
“We previously discussed four potential transmission channels through which a property market downturn in China could have broader macroeconomic implications: supply chain linkages; impact on the banking sector; wealth effects; and impact on government finances,” adds Taylor.
“While the supply chain — involving, for example, manufacturing for nonmetallic minerals and metals, construction, autos and power utilities — remains the most important transmission channel, the potential impact through the banking system and wealth effects has gained in importance,” says Lillian Li, a Moody’s Vice President and Senior Analyst.
“Wealth effects have now gained in significance since 2014 as the share of property in total household assets increases,” says Li.
“Previously, the banking sector’s exposure to the property market was relatively modest, thus limiting the potential negative impact from a real estate downturn, but the rising share of mortgages in new bank credit, the risk from property pledged as collateral on other loans, and the increasing role of shadow banks as providers of finance to the property sector have all raised the financial system’s vulnerability to a property-related shock,” adds Li.
Moody’s says that unlike in 2015, when the authorities responded with vigorous stimulus in reaction to developments in the property market, some recent trends will constrain policy space in the future.
Broad monetary policy support may be less available than in the past since monetary easing could exacerbate the challenges the authorities face in stemming capital outflows.
Although fiscal policy might be used to cushion any economic impact from a property market downturn, the government’s ability to use this measure in future also appears to have become more constrained.
The central government’s fiscal balance has deteriorated and, in the near future, Moody’s expects that a proactive fiscal policy will increase its deficit to ~3.3%-3.5% of GDP over the next a few years. Chinese general government leverage, now standing at 36.7%, is no longer low relative to the median for China’s rating peers.
However, Moody’s notes that urbanization continues to support overall growth in the property market, although divergence is evident at different tiers of cities. Moreover, household affordability has slightly strengthened, underpinned by the strong growth in household income.