Why China’s housing market will slow, not collapse by Nin-Hai Tseng @FortuneMagazine February 7, 2012, 4:10 PM EST E-mail Tweet Facebook Google Plus Linkedin Share icons FORTUNE – China’s hot property market and its implications on the global economy has been on the minds of many investors, and for good reason. In January, Barclays published its latest Skyscraper Index report, which tracks links between the rise in construction of tall buildings and economic busts over the past 140 years. This could be purely coincidental, but the index suggests that the East Asian giant is the world’s “biggest bubble builder,” and is on its way to an economic bust. China already has half of the world’s existing skyscrapers (or buildings higher than 240 meters). And it plans to add more over the next several years. However, let’s not read into this too much. It’s true, as Barclays notes, that the Great Depression coincided with the construction of three landmark skyscrapers across Manhattan: 40 Wall Street completed in 1929, followed by the Chrysler Building in 1930, and the Empire State Building in 1931. No doubt, China’s property prices have risen rapidly beyond the reach of much of the country’s middle class. And there’s reason to believe prices will certainly slide during what’s expected to be a rocky economic year, but prices won’t crash. Here’s why: China’s nation of savers It was the no-money-down mentality that partly brought down America’s housing market. While it would be a stretch to compare the U.S. market to China’s, it’s worth noting that our neighbors to the East are nowhere near as leveraged. China is known as a nation of savers, and consumers are relatively debt-wary, in part because the country doesn’t have the kind of educational and health care safety nets that its Western neighbors enjoy. What’s more, Chinese officials trying to clamp down on rapidly rising prices have directly placed limits on how much homebuyers (and speculators) can borrow. For primary-home buyers, the government has set a minimum down payment of 30% of the home’s total sale price while buyers of second homes must put down at least 60%. In 2010, a total of 4.4 trillion renminbi (or about $697 billion) of residential buildings were sold in China. However, mortgage loans outstanding were far less, at 1.4 trillion renminbi (or $222 billion), according to a JP Morgan November 2011 report on China’s housing market. “As a result, the probability of mortgage default is quite low,” analysts say, adding that the quality of mortgage loans will “remain solid” even under the hypothetical scenario that home prices drop by 30%. There’s plenty of pent-up demand While the Western world has plenty of available options for investors to park their money, housing is considered one of the few relatively safe investments to most Chinese. As incomes rise and as more of the country’s population is expected to move into urban areas (in January, China’s urban population surpassed that of its rural areas for the first time in the country’s history), demand for housing is expected to remain robust, says Shaun Rein, managing director of China Market Research Group, a Shanghai-based market research firm. The demand, however, isn’t just coming from the growing middle class but also the very rich. With tighter lending rules placed on Chinese buyers at home, many investors have gone abroad. Rein points to the formation of property bubbles in other parts of the world, as Chinese investors buy up homes in places such as Canada and California. Even if home prices fall by 20% in China, it’s unlikely that would spell disaster given that prices had surged so rapidly, says Bhaskar Chakravorti, executive director of Tufts University’s Institute for Business in the Global Context. Lower prices would offer an opening to those who couldn’t afford to buy a year or a few months ago (think about the 300 million middle class Chinese). “Fundamentally, it’s a deep market,” says Chakravorti, after speaking recently on a panel about China’s property market at the Bloomberg Link China conference in New York City. The government won’t let prices crash China’s central government has been known to tweak its economy as it goes. When officials saw property prices rising too rapidly for its tastes, it tightened lending rules. So the declines we have seen are welcome and are part of the government’s plans to cool down its hot real estate market, making it more affordable for more Chinese to buy property. The tricky part is in knowing how long officials adjust housing policies as the real estate market slows, according to JP Morgan. The bank adds that over the next year and a half, prices could fall 5% to 10% at the national level. At the regional level, where prices have risen much more rapidly ((it notes prices surged an average of 82% between 2007 to 2010 in 35 major Chinese cities), prices are expected to fall by 20%. “This will likely slow the pace of economic growth but not lead to a hard landing,” say JP Morgan’s analysts. To put China’s property bubble in context, it’s important to note that prices in major cities have risen much faster than the rest of the country, according to JP Morgan’s November report. And major cities make up a relatively small portion of the national housing market. For instance, Beijing, Shanghai, and Guangdong’s markets combined account for 16% of total real estate investment, 20% of the buildings sold (in value), and 10% of the floor space sold for the majority of 2011. So before home prices at the regional level trigger a national market crash, the Chinese government should have enough time to change its game.