Hard Landing Is The Central Case, But…4 October, 2011, 22:56. Posted by Zarathustra
Tags: Economy, Hard Landing
Hard landing is not an option, at least, if there are other options.
Related to this, there are a number of questions that I have been asking myself for the past few months on how to avoid a hard landing (if it is possible), or to delay it at the very least. And as a consequence of it, how it would impact my bearish posturing, which I have been holding since late last year.
The most popular defence of the bullish camp (or the most popular argument against the bearish camp) is that the government and the People’s Bank of China are able to prevent a hard landing (translation: government and PBOC are omnipotent). The government may put in fiscal stimulus again, and/or the PBOC may have rooms to cut interest rates and reduce reserve requirement ratios.
I don’t necessarily disagree that there are things that the government and the PBOC can do something, there is still a dilemma here. Inflation remains way above the target (although it has probably peaked), making the case for outright monetary easing somewhat difficult. If the PBOC does ease now (which I can’t rule that out), that would simply mean declaring a premature victory on inflation fighting and real estate bubble. Of course, I can’t really rule that out, and that would delay the inevitable, and would present an upside risk in the near-term.
If inflation and real estate bubble is still the top priority, that means policy easing isn’t yet on the table for the time being. If that’s really the case, some of the problems that we are seeing right now will likely get worse before getting better. Currently, we are already seeing some strains in terms of funding small and medium sized businesses, and real estate developers are also having trouble funding themselves. If the overall tightening stance continues, real estate developers will be forced to cut prices in order to obtain cash, and some will probably go bankrupt. That will weigh on the real estate market.
A Financial Times report suggested that Beijing officials might be rather happy to see some failures of real estate developers:
“There are some developers who are facing funding pressure or have even been cut off. This is something we are happy to see,” said one of the officials, who asked not to be identified. Developers were like “dragons and fish jumbled together”, he added, referring to a mixture of high and low-quality companies for whom a consolidation process was “very necessary”.
On the other hand, just as I pointed out at the start, most people assumed that hard landing is something to be avoided (if that’s possible). Earlier, as I mentioned, Deutsche Bank is expecting 10% correction in home prices because it would probably be a disaster if prices are allowed to fall by, say 30%:
Those who understand China’s political economy should know that a 15% decline in average property prices in 35 cities within a few months must be accompanied by a range of economic and social consequences. These will include a sharp decline in real estate transactions, a visible deceleration in real estate investments, rising unemployment in the property construction and agency sectors, a further decline in construction material prices, demand destruction due to inventory destocking, and finally a worrying decline in GDP growth and the resulting concern of social stability. In other words, the government will most likely not tolerate a 30% drop, and probably not even 15% in our view. We expect real estate policies will likely be relaxed way before a 30% price decline is observed.
Yes, I hear that!
The next question is, how can you be happy to allow some property developers to fail miserably while at the same time limit the fall in home prices to within 10% so that you can avoid “a range of economic and social consequences”, in other words, hard landing?
Or, if Deutsche Bank’s judgment is true that policy will be relaxed way before property prices fall by 30%, the next question is whether that will be enough to save the market if the downturn has passed the point of no return. We should all understand that once the trend is established, it is not possible to stop that. Property prices in the US have failed to bottom-out even with ultra easy monetary policy, for example.
So how to engineer this landing which requires a destruction of wheels on one side and a soft landing for wheels on the other side, without destroying the entire aircraft?
Seriously, you are lying if you think you know.