Recently, the South China Morning Post (SCMP) in Hong Kong published an interview with Professor Mao Zhenhua in the "Open Issues" column with two full pages, recording Professor Mao Zhenhua's judgment and suggestions on the current Chinese and Hong Kong economy. Founded in 1903, the South China Morning Post is not only the best-selling newspaper in Hong Kong, but also one of the most credible and influential media in Asia. The following is a translation of the English interview.
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◎The following is translated from the original English text:
The era of big real estate developers is over
Mao Zhenhua is the founder of China Chengxin Group and co-director of the Institute of Economics at Renmin University of China. A scholar and commentator on the Chinese economy, he has been a professor at the School of Business and Economics of the University of Hong Kong since 2022 and was one of the first to warn of potential pressures on Chinese property prices. In this episode of the "Open Questions" series of interviews, Mao Zhenhua analyzes China's struggling real estate industry, reflects on tensions between China and the United States, interprets the highly anticipated Third Plenum of the Communist Party of China, and explores Hong Kong's changing role in the broader economic evolution.
SCMP: China's real estate market is in crisis after a series of defaults by developer Evergrande in 2021. You noted the potential consequences of Evergrande's liquidity problems a decade ago. How do you now assess the impact of the real estate downturn on the Chinese economy?
Mao: Real estate has become one of the biggest issues affecting China's economic operation. China's real estate was once the focus of investment for the whole society. As real estate prices continued to rise, the unique concept of "only if you have a house can you have a home" has become more deeply rooted in people's minds.
Under such circumstances, owning or buying a house has become the "standard" for middle-class families, and even those families who do not have high income capacity are buying houses by leveraging. In a short period of time around 2017, housing prices were pushed to a new high, which was a sign that the bubble was about to burst.
I noticed that Evergrande started to promote sales by offering 20% discounts as early as 2016. It is generally believed that this is only a case of Evergrande, as the private developer faces liquidity problems due to heavy debts and lack of bank loan support.
However, I think this phenomenon is not an isolated case, but rather a universal phenomenon, which indicates a sales problem for the entire industry: housing prices have peaked and will begin to decline. I was also the first in China to raise the alarm that attention should be paid to the downward trend in Chinese real estate prices. I also called on our regulators to conduct more stress tests, including stress tests on the total debt-paying capacity of China's real estate industry and stress tests on the risk exposure that the financial system will face.
Given that the stress test at the time was not sufficient, I think Evergrande’s problems could have quickly spread to other real estate companies, and the policy was not adjusted until about a year later, when many real estate companies were truly on the verge of bankruptcy.
In 2021, I argued that China, like many other parts of the world, no longer needs so many large real estate companies. The oversupply in China's real estate industry will have two far-reaching effects: first, the real estate industry, as a "pillar industry", will not recover, but will gradually decline. For example, in European countries, especially those with slowing population growth, there are almost no large real estate developers in the market because there is already enough inventory; second, the downward trend in real estate prices may lead to other major economic problems, such as the contraction of the household sector's balance sheet.
SCMP: The Chinese government has taken a number of measures to stabilize the situation, including several strong measures announced on May 17. These measures include lowering the minimum mortgage rate and instructing local governments to buy unsold apartments and convert them into social housing. Do you think these responses are working?
Mao: The introduction of these policies has promoted the recovery of transaction volume, but has not completely reversed the trend of falling housing prices. Therefore, these measures have not achieved the expected results.
My suggestion is to limit supply, such as freezing new land supply and new real estate projects. These measures will send a clear signal of "limited supply" to the market, which will help stabilize housing prices. Otherwise, continuing to expand supply will only aggravate the problem rather than alleviate it. Of course, the projects that have already started construction are an exception, because home buyers have already paid the down payment, and the work of "guaranteeing delivery of the house" must be completed.
Real estate investment has declined in recent years, but the scale of real estate development investment and the newly built area of commercial housing are still large. They are much smaller than the peak periods in 2019 and 2020, but still higher than in 2015 and 2016.
As of the end of May this year, the area of commercial housing for sale in China exceeded 743 million square meters, an increase of 15.8% over the same period last year and an increase of 5 million square meters over 2016. I think there is still a long way to go for China's real estate industry to destock. The scale of land acquired by Chinese real estate developers is an astronomical figure. If all the land is used for real estate development as planned, the task of destocking the real estate market will be difficult to complete.
We must abandon the idea that "real estate must be the mainstay of the economy". It will take a long time to digest the current stock of housing. It can be said that the era of large real estate companies is over. Although we will still see some cities upgraded or renovated, the era of large-scale construction is over.
SCMP: How do you evaluate the impact of these phenomena on Chinese families? What do you think of the current level of consumer demand?
Mao: The debt problem of China's household sector is becoming increasingly prominent. In 2007, before the global financial crisis, the ratio of China's household sector debt to GDP, or the household leverage ratio, was about 18.9%. By the end of last year, the household leverage ratio had climbed to 69.3%.
The new debt of the household sector is mainly used to purchase real estate, but as real estate prices fall, the household debt situation has greatly worsened. A 30% or 40% drop in house prices means that home buyers have almost lost their down payment, which is a huge loss and pressure for the middle class. The shrinkage of real estate assets has also affected residents' consumption, thus placing a great constraint on the economy.
The value of real estate assets declines, but the liabilities are rigid, and the mortgage repayments will not decrease accordingly, which results in a deterioration of the balance sheet. The shrinkage of residents' wealth will trigger some psychological changes. For example, consumers will feel that they hold less money and have greater spending pressure, and will need more savings to cope with debt pressure. And when everyone is reducing consumption, insufficient consumption will bring significant constraints to economic operations.
Insufficient consumption is a long-term problem for the Chinese economy. During the period of rapid economic growth, economic growth was not mainly dependent on the domestic consumer market. Of course, domestic income growth also drove economic growth, but the main driving force for growth still came from globalization and international markets. Among the so-called "troika" of growth engines, namely exports, investment and consumption, exports have been the first driving force of China's economic growth for many years. However, with the outbreak of the global financial crisis in 2008, overseas demand shrank, and trade protectionism in many countries rose, and China turned its focus to domestic demand.
But we soon discovered that boosting domestic demand was difficult. Economists don't talk about desire, but rather demand with the ability to pay. When China's GDP grew at a rate of more than 8% or even 10%, residents' income did not keep up with the pace of economic growth. With the current slowdown in overall growth, residents' consumption capacity will be further constrained.
From 2000 to 2022, Chinese households’ final consumption accounted for only about 38% of GDP, lower than the world average of 57.6%. In contrast, the final consumption rate of American households is about 67.5%. The reason is that the proportion of Chinese residents’ income in the national income has been low for a long time. With the decline in asset prices and the contraction of household balance sheets, there have been some problems of consumption downgrade and sinking in economic operation.
SCMP: In order to reduce dependence on exports, the focus of economic transformation has shifted to domestic demand. How do you think China should promote this process?
Mao: It is both easy and difficult to answer this question. China has always had a tradition of attaching importance to savings and wealth accumulation and despising consumption. In recent years, China has made great progress in basic education and medical care, which has brought certain favorable conditions for increasing consumption. But the problem is that the current economic downturn has reduced people's income levels and income expectations. The income of public institution employees, including civil servants, teachers and hospital staff, has begun to decline, and many other industries have also seen layoffs. The reduction in job opportunities has put tremendous pressure on people's income expectations. More importantly, during the impact of the epidemic, many people were out of work for several months, and the income gap formed during this period has not yet been filled.
I have been calling for economic “stimulus” to be provided to those hit by the pandemic in the form of consumption subsidies or cash handouts since 2020, and have since gone further, suggesting that residents should be provided with RMB 10 trillion (US$ 1.4 trillion ) in cash subsidies.
On paper, this is a very large number, accounting for about 8% of GDP, and it also exceeds the red line of 3% of GDP as a fiscal deficit. But in fact, a subsidy of 10 trillion yuan is not an unattainable number. This is equivalent to a subsidy of 7,000 yuan per person, which is about 1,000 US dollars. We know that the United States has distributed thousands of dollars to its residents during the epidemic, and Hong Kong has also distributed the same amount of cash to its residents.
So how do we raise funds for cash subsidies? I think fiscal deficit is one way, but there are other ways. For example, China has a large number of state-owned enterprises, which generate about 4.6 trillion yuan in profits each year. These profits can be transferred to residents through local governments, and half of the problem is solved. If the scale of 10 trillion yuan is impossible, then 4.6 trillion yuan in subsidies is not a small amount.
I think that the current efficiency of using fiscal funds for infrastructure construction is very low, while the benefits and efficiency of directly distributing them to residents are very high, and the impact on enterprises will be better, because only when terminal consumption rebounds can enterprises achieve sales and profits. Therefore, if public funds can be used more to support consumption and increase demand, I support it; but if public funds are used more in inefficient departments and fields, I oppose it.
According to statistics, the role of state-owned enterprises in innovation is still lacking, and market innovation mainly comes from large companies and private enterprises. For example, most advanced defense technologies are based on the technological development of private enterprises, and the situation in the United States is similar. If we do not have a market-oriented environment, private enterprises such as drone manufacturer DJI will not succeed.
So, what is the current outlook for China's startups? The number of new unicorns (startups valued at $1 billion or more) in China has declined in the past few years. China's entrepreneurial environment is facing tremendous pressure. Venture capital mainly relies on industry funds established by the government, while private investment has decreased. At the same time, some policies that are unfriendly to venture capital funds have also emerged, making it difficult for venture capital to exit and for startups to go public or raise funds.
This leaves startups with no choice but to seek investment from government funds, but government funds often require collateral, and startups lack existing assets. Investments by companies such as Xiaomi, Tencent and Alibaba (current owner of the South China Morning Post) in certain areas have promoted innovation, product development and the development of many startups, but these expanded investment activities have also triggered discussions about the "disorderly expansion" of capital. As a result, many large private enterprises are also facing public pressure in the investment field.
SCMP: As competition between China and the United States deepens, the global economy is expected to further diverge. How do you view these issues and how should China respond?
Mao: The most common question when I visited the United States in 2014 was "What on earth has happened in China?" For the United States, China has undergone tremendous changes since the reform and opening up, but these changes do not meet the original expectations of the United States. During another visit in 2017, I found that the United States is basically convinced that these changes are not in the interests of the United States. Since then, the Republicans and Democrats have reached a consensus to contain China, and this sentiment is very hostile. Therefore, in recent years, not only has the competition with China in the traditional economic field increased, but also the confrontation of ideology and values has emerged.
I believe that the great power game between China and the United States is irreversible. For China, after a period of ambiguity, it has also found its own development path very clearly. With the rise of economic and diplomatic strength, China has also formed a development path that is completely different from that of the United States.
The situation between China and the United States is turning into a long-term confrontation. I think our initial assessment of the Sino-US trade war in 2018 was inadequate. The United States has launched trade disputes against almost all of its trade opponents, including allies such as Canada, the European Union and South Korea, but the key point is that we need to pay attention to the difference between the trade war between the United States and its allies and the trade war with China. The trade war with allies is an adjustment of trade relations, while the trade war with China is an all-round competition or even containment.
I think the China-U.S. trade war is heading toward a "new Cold War," and decoupling is somewhere in between. Both sides believe that their values are irreconcilable with each other, so there must be winners and losers.
SCMP: Over the past year or so, there has been increasing concern in the West about China’s overcapacity. Do you agree with this view?
Mao: I think the United States is trying to weaken China's supply chain capabilities and resilience in the name of correcting the trade imbalance between the two countries.
First, trade imbalances are caused by different industrial structures. In other words, if the United States does not buy goods from China, it will have to buy them from other countries at higher prices. Therefore, in my opinion, the "capacity transfer" or "supply chain diversification" measures must be aimed at weakening China, not necessarily strengthening the United States, and the ultimate goal is to reshuffle the world's supply chain pattern.
Second, I think the US and its allies are trying to curb the development of China's advantageous industries, which happen to be China's "new three": photovoltaics, lithium-ion batteries and new energy vehicles. The overcapacity issues surrounding these industries have already attracted attention.
I was a little disappointed that (U.S. Treasury Secretary) Janet Yellen raised the issue of overcapacity as an economist, because economists know that a country's large exports usually exceed domestic demand. For example, crude oil exports from the Middle East are a form of overproduction, right? There is also overproduction of agricultural products in Australia, and the same is true for grain production in the United States. An exporting country must have overcapacity in its domestic production.
China has experienced several rounds of overcapacity and capacity adjustment, so this is a normal market phenomenon. Of course, we must also see some problems in China itself. During the period of economic growth downturn, our demand shrank faster than supply, while supply-side structural reforms, high-quality development and other policy efforts have driven the recovery of supply faster than demand. In particular, due to the reduction in investment opportunities, companies will strive to seize and seize market opportunities, which is one of the reasons why new energy has become an over-investment area in China.
China needs to take more resolute measures to absorb its own production capacity at home, because we may continue to face obstacles in the trade field under pressure from the United States. China should also further enhance its competitive advantages in key emerging industries. For example, if it can continue to achieve technological innovation in the field of new energy, relying on the current cost advantage, it can greatly reduce its dependence on traditional energy such as fossil fuels, which will also change the global energy landscape.
SCMP: As a newly appointed professor at the University of Hong Kong, how do you view the role that Hong Kong will play as China enters a period of economic transformation?
Mao: Hong Kong's role has changed from being Asia's financial center to being a super link between mainland China and the world. Now I think Hong Kong's future development is becoming clearer.
My own judgment is that in the context of Sino-US competition, Hong Kong cannot simply maintain its position as an international financial center. I think the biggest difference between Singapore and Hong Kong is that Hong Kong can provide financial services for mainland companies to enter the international market. Singapore cannot play this role in Southeast Asia because its economic relations with these countries are not as good as Hong Kong's relations with the mainland. But the problem now is that with the reduction of financial transactions between the mainland and the United States, Hong Kong has lost an important source of business, and the mainland's economy is in a period of transformation, which has also magnified the disadvantages of Hong Kong as a financial center.
However, these unfavorable factors have not brought about fundamental changes to Hong Kong's economic structure and common law system. Hong Kong remains the most international city in China and still has many advantages in areas such as certification, testing, and international arbitration, which are irreplaceable by other Chinese cities.
Education is an important area that Hong Kong can develop in addition to traditional industries. Hong Kong has the highest English proficiency in the country and can provide common law training. Hong Kong has five universities on the list of the world's top 100 universities. In fact, the income brought by the expansion of postgraduate enrollment in Hong Kong in the past two years is also considerable. The annual tuition fee for a student is about US$50,000, and their consumption activities in Hong Kong are also an important source of economic growth. Hong Kong should also recruit students from other countries, including developed countries and countries involved in the "Belt and Road Initiative".
Given the current situation of Sino-US confrontation, Chinese scientists and high-tech practitioners in the West may have the desire to leave the United States, but they have concerns about moving to the mainland. These concerns include children's education, international exchanges and wealth security. They are also worried about their investments, so they may choose to go to Hong Kong first. In addition to attracting these technical talents to Hong Kong's universities, it is also necessary to attract large technology companies from China and other parts of the world to Hong Kong.
Some technology companies in the mainland need to attract international talents, but many international employees may be unwilling to immigrate to the mainland. Hong Kong's low tax rate, coupled with the advantages of the common law system and a high degree of internationalization, can meet their needs for environment and life.
With the development plan of the Guangdong-Hong Kong-Macao Greater Bay Area (regional integration), Hong Kong and Shenzhen can complement each other in terms of technological development, so Hong Kong has the potential to build a technology industry. There is a large amount of idle land in the areas where Hong Kong and Shenzhen are connected, and the cost of using it may be lower than that of Shenzhen. Hong Kong can be at the forefront of China's technological development and play a leading role in the world.
Hong Kong is currently in a period of transformation, although it is a passive transformation. One of the short-term problems it encounters is its dependence on finance, but this also provides motivation and opportunities for Hong Kong to explore development in other areas. If the relationship between China and the West improves in the future, Hong Kong will continue to be an international financial center and has the potential to build itself into a technology center.
SCMP: On July 18, China concluded the Third Plenum, an important meeting of the CPC Central Committee held approximately every five years, which sets the direction for China's economic policies. What do you think of this meeting and its outcomes?
Mao: First, we need to understand the background of this meeting. This year's Third Plenary Session is a core meeting of the Chairman's third term, not an occasion for the new leader to announce groundbreaking ideas. Therefore, the central government will not make a huge policy shift, but will definitely make more comprehensive, specific and systematic arrangements for deepening reform and opening up. This was my judgment before the meeting, and the results also confirmed this.
Secondly, I would like to point out that the Decision adopted and issued by the Third Plenary Session of the 18th CPC Central Committee confirmed that China will continue to adhere to the socialist market economic system, give full play to the decisive role of the market in resource allocation, and equally protect all kinds of ownership economies. These contents have dispelled some doubts in the market and society and will have a positive impact on stabilizing expectations. At the same time, the Third Plenary Session of the 18th CPC Central Committee also clearly put forward the work priorities in the fields of national security, ideology and state-owned economy, which can provide a specific framework for future development.
Third, the Third Plenary Session provided guidance for reforms in important areas of China's economy, such as fiscal and taxation system reform. On the issue of the relationship between the central and local governments, the Decision put forward some new ideas, namely, appropriately expanding the "taxation" rights of local governments, including the central government will gradually transfer consumption tax to local governments, etc. Another important message is to vigorously develop science and technology and emphasize the importance of establishing a unified national market.
Overall, I believe that the Third Plenary Session of the 18th CPC Central Committee is crucial to the stability and recovery of China's economy. Continuing to comprehensively deepen reform and opening up will enhance the total factor productivity of China's economy and also help improve the medium- and long-term growth center of China's economy.
