The rental yield is simply the annual rent divided by the market price, just as the yield on a bond is the fixed interest payment divided by the price of the bond that day. In the U.S., the rental yield averages around 6%, meaning the multiple of prices to rents is around 17. The adjustment to a 5% rental yield in China would push prices down by 60%.
Aliber is by no means the sole China expert to predict that a steep drop is coming. "I estimate that a decline of 60% or even more is the upper end of the range, but is indeed possible," says Derek Scissors, an economist at the Heritage Foundation.
The adjustment has already begun. While the government's official figures show modest declines starting late last year, those numbers are famously unreliable. A better view comes from owners trying to sell their units. Losses of 30% aren't uncommon. In fact, many owners who paid, say, $600,000 in 2010 are furious that their landlords are now offering unsold units in the same building for $450,000.
What's the probable hit to China's vaunted growth rate? It's important to recap the forces that caused the frenzy. China imposes tight restrictions on returns on bank accounts, government bond yields and other domestic investments. Inflation for 2011 exceeded 5%, but 10-year bond yields are just 3.5%. It's extremely difficult to find investments that yield more than inflation. When the easy money policies took charge after the worldwide crash of 2008, the excess cash flowed into the only place with big returns -- real estate.
For around four years, China has been building around 1 billion square meters of housing a year, ten times the figure in the U.S. The amount needed to accommodate real owners -- people moving from farms to the cities, for example -- is 700 million square meters.
So let's assume that demand goes back to that level. China is also swamped with seven to eight million vacant units. If around two million of those are sold a year, China will need to build just 500 million square meters annually -- half of the total over the past several years. That decline will pound not just expenditures on apartments, but production of steel, copper and appliances.
By Aliber's reckoning, the sharp decline in housing production could lower China's growth rate by a full five points. In his view, around three points of its 9.2% growth rate in 2011 came from the bubble. Shave two more points for the empty apartments that need to be sold, and future growth looks far less robust than the official projections.
Unlike the post-crash U.S., China will keep growing after the bubble bursts, though at a far slower rate. What bears watching is the effect of another gigantic stimulus program to compensate for the decline in housing. If renewed inflation follows, so will a slowdown needed to tame it.
Or as Aliber observes, "China's spurt of a 10% growth rate is likely to be history."
