Trains Soften the Real Estate Blow

With China’s gross domestic product (GDP) representing nearly 15 percent of the global economy, it is little surprise that markets rise and fall on how China is faring. For nearly two decades now China has been the growth engine of the emerging markets, to the point that the World Bank International Comparison Project forecast this past May that the Chinese economy could surpass the United States to become the world’s largest. That’s an honor that the US has held since it overtook the United Kingdom in 1872.

Despite the important role China plays in the world economy, trying to read the Chinese economic tea leaves is a tricky proposition. For one thing, when an economy grows that large its fortunes become tied to the rest of the world and they can rise and fall depending upon what’s happening on the other side of the ocean. At the same time, just as we say “don’t fight the Fed,” here in the States, in China’s case it is “don’t fight the central committee.” Whenever the Chinese economy seems to be faltering, the government will step in with support measures.

That’s why I’ve been surprised that so many market watchers continue to predict a hard landing for China. Global markets have been rallying over the past few days largely due to the fact that, once again, those calling for a hard landing were wrong.

Most of the economic data coming out of China so far this year has been relatively weak, particularly when it comes to real estate. While June data hasn’t been released yet, homes sales in the first five months of the year fell 10.2 percent year-over-year while construction starts were down 18.6 percent. According to data from the International Monetary Fund, real estate directly accounts for 12 percent of Chinese GDP and indirectly accounts for even more when you consider sales of home furnishings, appliances and other items.

But just as analysts the world over watch Chinese economic data, so does Beijing. The country’s real estate slowdown was largely government engineered, as Beijing took steps to slow credit growth and limit purely speculative real estate development. And just as it can tighten, now it is loosening, pushing banks to ease mortgage terms and cut interest rates, generally loosening credit conditions and embarking on social housing projects of its own. At the same time, the Chinese government cut a number of taxes for small- and mid-sized businesses and launched a raft of infrastructure projects.

As usual, a bet on a hard Chinese landing is probably going to be a losing one – the government just won’t let that happen. As I’ve often said, I would avoid Chinese real estate-related investments at this point, but infrastructure plays should continue to pay off thanks to their simulative effect.

I would pay particular attention to China’s ambitious efforts to develop a high-speed train network across the country in order to be more economic development opportunities to the country’s interior. China currently operates the world’s longest high-speed rail network at more than 6,000 miles.

Last year the government spent about RMB650 billion on rail development, with the goal of investing at least RMB3.3 trillion and building 13,000 miles of new railroad by the end of 2015. It also plans to grant ownership and operating rates on some city and regional connections to local governments and private investors.