DEFLATING ZHEJIANG'S PROPERTY BUBBLE

UNCLAS SECTION 01 OF 03 SHANGHAI 000060 SENSITIVE SIPDIS DEPT FOR EAP/CM NSC FOR MEDEIROS, LOI, SHRIER STATE PASS USTR FOR STRATFORD/WINTER/MCCARTIN/KATZ/MAIN USDOC FOR ITA DAS KASOFF, MELCHER, SZYMANSKI, MAC/OCEA TREASURY FOR OASIA/INA -- DOHNER/HAARSAGER/WINSHIP TREASURY FOR IMFP -- SOBEL/CUSHMAN STATE PASS CEA FOR BLOCK STATE PASS CFTC FOR OIA/GORLICK MANILA FOR ADB USED PARIS FOR US/OECD E.O. 12958: N/A TAGS: ECON EFIN EINV PGOV CH AE SUBJECT: DEFLATING ZHEJIANG'S PROPERTY BUBBLE REF: A) Shanghai 059 B) Shanghai 041 C) Shanghai 022 ¶1. (SBU) Summary: Financial sector contacts in East China's Zhejiang Province see signs of a property bubble forming, but some are awaiting more economic data before committing to rigid government controls over the real estate sector. As a result, financial system regulators are somewhat divided in their approach to implementing the Central Government's property sector cooling measures. They agree that part of the solution will be facilitating a greater supply of affordable housing. Regarding reported local investments in Dubai real estate, the regulators are confident Zhejiang is insulated from financial fallout. End Summary. =========================================== Signs of a Property Bubble Appearing . . . =========================================== ¶2. (SBU) Financial regulators in Zhejiang told EconOff on January 21 (see also ref A) there are some signs of a bubble appearing in local property markets, but tended to downplay their current severity and extent. Yang Xiaoping, director-general of the Zhejiang Office of the China Banking Regulatory Commission (CBRC),said that housing prices are up in Hangzhou and Wenzhou, but not much elsewhere in the province. (Note: The former is the provincial capital, and the latter is a freewheeling center for consumer-product exports on the province's southern coast. End note.) ¶3. (SBU) Both Yang and Li Hong, deputy president of the Hangzhou sub-branch of the People's Bank of China (PBOC),agreed that, while housing prices in Hangzhou Municipality have risen sharply in the past year, there is strong enough demand from population inflows to support the market. Li further pointed out Hangzhou, as the provincial capital, can attract wealthy households from elsewhere in the province looking for better education and services. Yang said that, even though it may not be clear how big the real estate bubble is, the large down payments required by Chinese banks will protect them from risk ;-- such a large investment by homeowners will help prevent the situation in the United States, where homeowners with low or no down payments walked away from homes when the value fell below the mortgage balance. Li also noted Zhejiang property developers are not under financial pressure as they were in winter 2008-09, since they had good revenues last year and therefore are not in a rush to sell properties at discounts. (See also ref B.) ¶4. (SBU) According to official statistics, Zhejiang has experienced some of the highest increases in housing prices in China. For example, housing prices per square meter in Zhejiang Province rose over 24 percent year-over-year in 2009 -- among first- and second-tier markets, second only to Shanghai's rise of nearly 57 percent -- according to calculations based on data released by China's National Bureau of Statistics (NBS). Calculations using a separate NBS monthly index of property costs in 70 cities show three Zhejiang cities to have among the highest property price increases nationwide. Although Guangdong Province's Shenzhen leads at 17.4 percentage points of cumulative month-over-month gains during 2009, Wenzhou is second with 14.9 percentage points, central Zhejiang's Jinhua is third with 11.9 percentage points, and Hangzhou is fourth with 10.8 percentage points. ============================================= == . . . But Views Vary on How Hard to Crack Down ============================================= == SHANGHAI 00000060 002 OF 003 ¶5. (SBU) Contacts showed some differences in how to implement Central Government measures to cool the real estate sector (see refs B and C). CBRC's Yang seemed most ready to let some air out of any nascent bubble, saying that the recently raised down payment requirements on second home mortgages would be strictly enforced, as well as restrictions on converting land from agricultural use. Tian Dazhang, deputy head of the Zhejiang Regional Headquarters of the Industrial and Commercial Branch of China (ICBC),confirmed the CBRC has been "very clear" on the requirement to raise down payments for second homes. Tian also said ICBC crosschecks mortgage applicants across the province, making it less likely that one household can purchase homes in multiple Zhejiang cities under the preferences given to first home purchasers. ¶6. (SBU) On the other hand, PBOC's Li expressed more support for allowing the real estate sector to continue developing. He suggested, for instance, that authorities would best wait until May to see the shape of the property market in 2010 before making further policy moves. He said that, in general, the real estate sector should be left free of government interference, although he would support renewed government housing-purchase incentives if the economy were to slump again. CBRC's Yang was strikingly opposed to the latter view, saying that if the economy turned down she would not only oppose reviving property stimulus measures, she would also require further increases in down payments to better protect the banks. =================================== Short Supply of Affordable Housing =================================== ¶7. (SBU) The biggest problem associated with a potential housing bubble in Zhejiang is pricing lower- and middle-income families out of the market, agreed our interlocutors. Both the PBOC's Li and the CBRC's Yang suggested that this could be resolved -- bubble or not -- with a greater focus by authorities on supplying affordable housing. The government could easily fix this by setting aside income from land sales for use in affordable housing construction, said Li. Yang pointed out, though, that the government should also work to change expectations of some younger or poorer residents that they should be able to afford their own homes. Perhaps, instead, the government could supply low-rent housing for newly graduated college students. ============================================ Local Financial System Insulated from Dubai ============================================ ¶8. (SBU) Despite widespread media reports that Wenzhou businesspersons have been wiped out by Dubai's financial crisis, Zhejiang banks have so far not been affected, said CBRC's Yang. (See also ref B.) The Wenzhou branch of the CBRC visited the chairman of the Wenzhou Chamber in Dubai and was reassured that Zhejiang banks were insulated from the problems. First, CBRC was told, real estate purchases in Dubai were funded by overseas operations, and were generally used for residences and businesses, not for speculation. Second, the Chamber chairman said, the real estate financing system is different in Dubai, with lending done in tranches as the building is finished, meaning that a downturn in prices will be absorbed more easily. In addition, Chinese banks have not opened any branches in Dubai. SHANGHAI 00000060 003 OF 003 ¶9. (SBU) ICBC's Tian agreed that, overall, the fallout from business problems in Wenzhou would not overwhelm Zhejiang banks. Tian cited the Dubai financial crisis as well as Wenzhou businesspersons potential losses from forced sales of Shanxi coalmines to state-owned mine conglomerates. Wenzhou entrepreneurs don't rely primarily on the banking system for financing, said Tian, and are also known for controlling their debt ratio well. ¶10. (SBU) CBRC's Yang said that, more generally, CBRC Zhejiang Office encourages local companies to "Go Out" (zou chuqu). Nonetheless, she said that banks have to be cautious, and cited the failure of United Commercial Bank in California. This incident hit Minsheng Bank, said Yang. (Note: According to media reports, Minsheng -- China's only officially recognized private bank -- held a 9.9 percent share in United Commercial when it failed. End note.) Yang complained that it would not have been necessary for Minsheng to invest in United Commercial if the U.S. Federal Reserve would stop blocking Chinese banks from opening branches in the United States. (Comment: Yang seemed less than fully briefed on the specifics of the approval process for foreign bank branches in the United States. End note.) ======= Comment ======= ¶11. (SBU) With some local property markets overheated in Zhejiang Province, financial regulators appear willing to take initial steps to cool the sector back down. Their ability to guide the housing market to a more steady growth path, with housing for the full spectrum of demand from low-end to high-end, could have important implications for promoting domestic consumption. That is, while real estate is rightly seen as a driver of domestic consumption, it probably also displaces consumption of other goods as it becomes more expensive relative to household income. Even if air is let out of the bubble -- as appears likely at this point -- Zhejiang real estate developers have been left flush with cash from last year's sales and are unlikely to lower prices in markets that saw some of the highest housing cost growth last year. BEEDE