the fed's interest rate cut has limited impact on china's real estate

2024-09-23

in-depth interview mind map

introduction

the u.s. federal reserve recently announced thatlowered the federal funds rate target range by 50 basis points, down to a level between 4.75% and 5.00%. this is the first interest rate cut by the federal reserve in 4 years.

for a time, chinese market investors were excited, believing that the fed’s interest rate cut would eventually bring about an increase in the heat of china’s capital market.real estate investors also felt the benefits of the fed's rate cut, in the two trading days of thursday and friday, the a-share real estate index rose by more than 4%.

various self-media and investment analysts have exaggerated the fed's interest rate cuts to save china's real estate.it is believed that after the fed cuts interest rates, foreign capital will flow into china and will first enter the real estate market., and some even believe that $1 trillion will flow into china. in addition, investors generally believe that the fed's interest rate cut will open up room for china's monetary policy easing.

however, the lpr on friday morning did not fall as the market expected, and the 5-year lpr remained at the previous 3.85%.however, some analysts believe that the lpr will remain unchanged for the time being, which will increase the room for the existing mortgage interest rates to fall., and after the fed cuts interest rates, china may follow suit and cut interest rates in the fourth quarter.

what impact will the federal reserve’s interest rate cut have on china’s real estate market?we have invited experts from songshan market to discuss with you whether foreign capital will flow into china after the us interest rate cut, and analyze the space and options for china's subsequent monetary policy.and targeting the current core problems of real estate, interpreting the comprehensive impact of the fed’s interest rate cut on china’s real estate market.

q&a transcript

①丨will foreign capital flow to china: review of past fed rate cuts

- the flow of foreign capital is not only affected by the interest rates of various countries, but also depends on the fundamentals of each country.

hostholdpeople:

after the fed’s rate cut, many investors believe that foreign capital will start to flow into china, and the target of foreign capital pursuit is likely to be chinese real estate. what do you think of this view? will the fed’s rate cut definitely lead to foreign capital chasing after china’s core assets?

1丨review of the past: foreign capital inflows place more emphasis on economic fundamentals

in fact, reviewing the past monetary policy cycles of the federal reserve and comparing them with the inflow of foreign capital into china, we find that, overall,after the fed starts the interest rate cut cycle, the inflow of foreign capital into china will improve, but this is not an absolute truth.。

in addition to interest rates and liquidity, the economic fundamentals of the target country are the core considerations for foreign investment flows.the flow of foreign capital is a lagging variable in the performance of national and regional economies.. in the past decade, there have been two periods in which foreign investment inflows in china have improved and continued, 2016-2017 and 2020-2021, both times when china's economic growth rate had a relative advantage.

the reason why i sayeconomic fundamentals have a greater impact on the inflow of foreign capital than the interest rate differential between china and the united states, we can also observein 2017, the federal reserve raised interest rates several times in a row, but china's foreign capital inflows(observed using the foreign direct investment (fdi) indicator)but it is improving.andfed rate cuts in 2019however, due to the sino-us trade war and the downward trend of china's economic momentum,2china's foreign investment inflows are declining in 2019。

to explore the reasons behind this, we can use the china-us manufacturing pmi to observe, it was found that china's trend performance was good in 2017, but after 2018, affected by the trade war, pmi entered a significant downward period. see the figure below for details.

figure: factors affecting foreign capital flows - fed rate cuts and us and chinese economic fundamentals

data source: wind, songshan market research

2丨foreign capital flows out of the united states, but may not flow into china, and the target may not be real estate

beyond simply the fed’s rate cut, we foundnational economic fundamentals determine the direction of foreign investment flows, and the flow of foreign capital itself is also a lagging indicator of the economy.

the interest rate differential and liquidity changes brought about by the fed's rate cut will indeed push foreign capital to consider leaving the united states. however, due to multiple factors such as the sino-us confrontation and the downward trend in domestic economic growth,beautifulafter the country's funds choose to go abroad, they will now be more inclined to other emerging markets with higher growth rates.。

we choosein the asia-pacific region other than china, it was found that the direct investment of the us financial account in it has significantly exceeded that of china since 2021.。

so, the fed cuts interest rates.even if it promotes capital outflow from the united states, china may not benefit directlycoupled with the overall poor economic situation in the real estate industry, a large number of real estate dollar bond defaults have also caused losses to foreign investors.it is difficult for china's real estate industry to become the main target of capital flow after the fed cuts interest rates。

figure: changes in the amount of us direct investment in asia pacific (excluding china) and china (considering costs)

data source: wind, songshan market research

②丨will domestic monetary policy follow suit: easing in the fourth quarter is worth looking forward to

- china's monetary policy remains independent, but is likely to be more relaxed in the fourth quarter

hostholdpeople:

many investors believe that the fed's rate cut will open up space for china to cut interest rates, but neither the lpr nor the omo rate fell on friday. what monetary policy do you think china will adopt in the future? will china further follow the fed's rate cut?

1. china’s monetary policy is independent

in fact, china's monetary policy is independent of the federal reserve. it does not necessarily mean that china will continue to cut interest rates when the federal reserve starts a rate cut cycle.for example, in 2006-2007, 2014-2015, 2017-2018 and 2022-2023, there were differences in the direction of monetary policies between china and the united states.. see the figure below for details.

figure: differences in china's monetary policy cycles (yellow area)

data source: wind, songshan market research

from the above chart, we can also find that the linkage between china and the united states’ monetary policies is not certain. china’s recent lpr has not been directly adjusted.the policy determination of "strengthening the foundation and nurturing the roots". china's monetary policy is more concerned with china's own economic development and financial risks.。

2丨however, the constraints on the rmb exchange rate have indeed improved

actuallysince the second half of last year, china's pace of interest rate cuts has slowed down, the 5-year lpr remained at 4.2% for more than half a year.this is to some extent constrained by the rmb exchange rate.after all, the interest rate cut will eventually affect the interest rate differential between china and the united states, which will be reflected in the rmb exchange rate. the rmb exchange rate affects and affects important economic areas such as imports and exports.

existafter the fed cut interest rates in september,masterthe rmb exchange rate has opened up constraints on interest rate cutsin fact, after august, the yen carry trade reversed and the us dollar exchange rate fell. in fact, the conditions for domestic interest rate cuts have been met. further interest rate cuts and continued loose monetary policy in the fourth quarter are expected.

past performance of specific exchange rates and rmb interest rate cuts, see the figure below for details.

figure: rmb exchange rate changes and interest rate cut decisions

data source: wind, songshan market research

3丨the fundamental reason for the fourth quarter interest rate cut: the inherent demands of the economy

in fact, the reason why we judge that the country will promote interest rate cuts in the fourth quarter is more because china's current economy needs further interest rate cuts to stimulate it.the reason why there was no direct adjustment in september may be that the effect of the interest rate cut in july is still being released, or it may be that the bank's net interest margin is weak., constraining the downward adjustment of interest rates.

the unemployment rate data for august by age group released by the national bureau of statistics in september showed that the unemployment rate for the labor force aged 16-24, excluding students, rose by 1.7 percentage points to 18.8% in august. since the update of the unemployment rate indicator for young and middle-aged people in 2023, the indicator has hit a new high.。in the past, china's interest rate cut decisions were greatly influenced by the youth unemployment rate. it may not be in october or november, and there is a possibility that the lpr will be further reduced., a reduction in the reserve requirement ratio can also be expected.

figure: youth unemployment rate and interest rate cut decisions

data source: wind, songshan market research

from this perspective, china’s interest rate cut in the fourth quarter was not simply because it followed the federal reserve’s policy direction, but rather was an inherent demand of the chinese economy.the importance of further boosting china's economy by lowering interest rates is much higher than "the fed has opened up space for us"。

4丨follow up the broad-spectrum interest rate cut: the necessity of adjusting the interest rate of existing mortgage loans

in fact, in addition to the reduction in lpr, investors are also concerned about whether the interest rates on existing mortgage loans will continue to decline.

our discussion this week focuses more on the direct significance of existing mortgage interest rates to residents and banks:it saves money for residents and eases early repayment for banks。

first, the interest rate on existing mortgage loans can help residents save money. this is also the simplest starting point of the policy. we can find thatbetween 2018 and 2022, the interest rate on personal housing loans was significantly higher than the benchmark lending rate (lpr after 2019), with the premium even exceeding 100bp. before july 2021, the real estate industry was also in a boom period.therefore, a large number of high-interest mortgage loans have been accumulated in the past. even if there is a wave of reductions in september 2023, in many areas, such as beijing, residents who bought houses from 2018 to 2022 will still have to bear an interest rate of more than 50 bp of lpr. see the figure below for details.

figure: comparison of past personal housing loan interest rates and benchmark interest rates

data source: wind, songshan market research

for banks, the large-scale early repayment of personal housing loans has a negative impact on their increasingly weak net interest margin.even though china money network has stopped updating the rmbs early repayment rate data, we can still observe the trend of early repayment from the sudden increase in operating loans.。

for most of the time since 2022, medium- and long-term business loans accounted for nearly 60% of residents' medium- and long-term loans, and the increase in consumer loans was negative in some months (according to the central bank's definition, mortgage loans are classified as consumer loans in residents' medium- and long-term loans).operating loans accounted for more than 100% of the incremental loans. in the fourth quarter of 2021, when the real estate crash began, this proportion was only 5.4%.to ease the misappropriation of operating loans to replace mortgage loans, banks must take action.

figure: residents' medium- and long-term loans and business loan replacement are becoming more and more obvious

data source: wind, songshan market research

the reduction in existing mortgage interest rates is also part of china's overall monetary policy easing and broad-spectrum interest rate cuts.last year's adjustment of existing mortgage rates has reduced residents' interest by 170 billion yuan per year, but many places still bear existing mortgage rates that are 50 or even 100bp higher than the current new issuance rates. whether and how to adjust in the future will depend on balancing residents' demands and bank profits, as well as the game between banks.there is a high probability that the actual existing mortgage interest rate will be lowered, which may be announced before september 30 and will be implemented in the fourth quarter.。

③丨the current crux of the real estate industry: insufficient fiscal revenue leads to insufficient policy investment

- due to insufficient financial resources, many real estate policies remain on paper and are not implemented to a high degree

hostholdpeople:

according to your expert opinion, the fed's interest rate cut does not determine whether china's real estate will benefit directly. the flow of foreign capital and whether the interest rate will be cut or not depend more on the needs of china's own economy. whether china's real estate can benefit from the fed's interest rate cut actually depends more on the problems of china's real estate itself.

the fiscal data for january to august was released on friday, and general fiscal revenue fell by 2.6% year-on-year, with the growth rate falling at a wider rate. do you think that the downturn in china's real estate industry is to some extent affected by insufficient financial resources?

shortage of fiscal revenue and insufficient financial resources have hindered the implementation of real estate support policies.

in august, both revenue and expenditure in the fiscal sector showed a weakening trend. specifically,tax revenue continued to decline, while non-tax revenue growth slowedthe government fund's revenue has fallen by more than 30% for three consecutive months.land transfer revenue has also continued to decline by more than 40% for two consecutive months.in addition, the financialspending execution also lagged significantly behind typical seasonal levels.。

the situation we are facing now isfinance and real estate form a negative feedback——the real estate industry is experiencing an accelerated decline in prosperity, and real estate-related taxes and land transfer income has fallen sharply, making the land finance model unsustainable.insufficient fiscal revenue also makes it difficult for local governments and the central government to come up with enough funds to invest in real estate support policies.。

figure: china’s fiscal shortfall is obvious—land transfers have declined the most

data source: wind, songshan market research

the current market is looking forward to fiscal funds, especially the central government issuing special government bonds to support the construction of three major projects and the purchase and storage of commercial housing.compared with the psl release in the 2014-2018 cycle, the current fiscal and monetary support for real estate growth is particularly insufficient. only the release of actual funds can boost investment in the real estate industry.eventually, it will be transmitted to the entire economy and improve the expectations of the entire economy(using manufacturing pmi as an indicator).

figure: current fiscal investment and monetary support are much weaker than the 2014-2018 cycle

data source: wind, songshan market research

andcentral bank's various real estate support re-loans, including the rental housing refinancing, affordable housing refinancing, guaranteed housing refinancing, and special refinancing for real estate companies, which the market has high hopes for, all have insufficient investment.the usage amount accounts for far less than 10% of the total amount..after all,lack of financial support from local and central governments, the actual investment of the financial systemthere is also a lack of multiplier effect, and even less guarantee of capital recovery.. see the figure below for details.

figure: the central bank’s various types of real estate support re-loans have limited usage

data source: wind, songshan market research

④丨the second problem facing real estate: weak expectations for housing prices affect sales, making it difficult to reverse the situation

- the obvious decline in housing prices has undermined market expectations and is difficult to reverse

hostholdpeople:

the prices of new and second-hand houses in our 70 large and medium-sized cities have been falling for nearly 30 consecutive months. the weak price performance has also affected the valuation of assets, not to mention the "1 trillion foreign capital inflow" expected by the self-media.

the decline in both volume and price of new houses and the exchange of price for volume of second-hand houses have led to an accelerated downward trend in the market and destroyed china's expectation that "housing prices will continue to rise" for more than 20 years.

when do you think housing prices will bottom out and rebound? how can the downward expectations of housing prices be repaired?

the decline in housing prices and the sluggish economy have accelerated the shrinking of household balance sheets, which cannot be changed by interest rate cuts

the current real estate market is experiencing downward price pressure, a trend that, to a certain extent, reflects the overall economic downturn.falling house prices are often associated with slower economic growth, reduced purchasing power and shifting market expectations.in this case, residents' financial situation and consumption confidence may be affected.this leads to residents being more inclined to reduce debt and increase savings to cope with future uncertainties.。

the continued decline in housing prices,on the one hand, it reduces residents' risk appetite, and on the other hand, it leads to a contraction in residents' asset valuation, which is the so-called active and passive "balance sheet reduction".。residents may reduce home purchases and investments to avoid further declines in asset values.at the same time, they may increase savings and reduce consumption and debt to strengthen their financial safety cushion.

after the new policy on may 17 this year, the policy removed the lower limit of personal mortgage interest rates and reduced the down payment ratio to 15%, hoping that residents would repair their leverage tendency.however, the actual down payment ratio of residents - deposit and advance payment/(deposit and advance payment + personal mortgage) has continued to rise. at the same time, the growth rate of m1 has hit a new low, both of which reflect the residents' tendency to shrink their balance sheets.. see the figure below for details.

figure: housing prices are falling, residents’ willingness to leverage is decreasing, and the attitude of shrinking the balance sheet is maintained

data source: wind, songshan market research

although the fed's rate cuts may be followed by a reduction in interest rates, the people's bank of china is likely to stimulate the economy by lowering interest rates in an attempt to encourage consumption and investment by making borrowing costs lower.but the effectiveness of such a policy may be limited.first,likeif residents are pessimistic about future economic prospects, they may not change their consumption and investment behavior due to a small drop in interest rates.. second, the adjustment of the real estate market often takes time, and market participants need to adapt to the new balance of supply and demand. in addition, if the decline in housing prices leads to a reduction in residents' wealth, their spending power will also be affected, which may further suppress economic growth.

therefore,relying solely on the monetary policy tool of interest rate cuts may not be able to effectively change the situation of falling housing prices and sluggish economic prosperity.。it is necessary to comprehensively consider various measures such as fiscal policy, structural reform and market supervision to promote stable economic growth and healthy development of the real estate market.

⑤丨the third problem of real estate at present: negative feedback that drags down economic operation

- the downturn in real estate drags down economic growth, while the economic downturn hinders the recovery of real estate

hostholdpeople:

many of our macroeconomic researchers and interest rate bond investors are using real estate as a starting point to explore the path of china's economic momentum transformation and economic growth recovery. unfortunately, dragged down by real estate, china's economic momentum has not been restored. on the contrary, the poor income and employment expectations of residents brought about by the economic downturn have hindered the recovery of real estate sales. do you think this can be changed by lowering interest rates?

1丨the downturn in real estate drags down the economy: infrastructure and manufacturing

actually,since 2021, the drag of real estate on the economy has been deepeningthere was a period of time before, especially in the second half of 2023, when infrastructure investment and manufacturing offset the decline in real estate investment.

however, in subsequent developments, real estate further declined, dragging down local finances, resulting in a slowdown in spending and overall weakening of infrastructure investment in the context of fiscal shortfalls.the manufacturing industry, which is based on equipment renewal and export chains, has limited sustainability of improvement due to the external environment.。

so at present,the drag of real estate on the economy is deepening, and the entire economy intends to untie real estate. these are two trends that exist simultaneously.we need to realize that the traditionalthe strategy of using real estate to stimulate the economy is not feasible in the current cycle., it is difficult for real estate to make positive contribution to economic growth.

anda rate cut will not change this trendafter all, the decline in real estate investment is caused by demand contraction, supply shock and weakening expectations. see the figure below for details.

figure: real estate continues to decline, dragging down infrastructure and manufacturing

data source: wind, songshan market research

2丨prosperity transmission: real estate to industry, to ppi

the real estate downturn not only affects manufacturing investment and infrastructure investment, but alsotransmitted to the profits of the entire industrial enterprise.at the same time,due to the long real estate chain, the involvement of sub-industries and the variety of materials, the real estate industry has a negative impact on the overall ppi and the entire industrial product inventory., which seriously hindered the cycle from returning to the "active inventory replenishment" range. the year-on-year decline in ppi also shows that the weak prosperity of the real estate industry has been transmitted to the supply and demand of the entire economy. see the figure below for details.

figure: real estate affects industrial enterprise profits and ppi growth rate

data source: wind, songshan market research

3丨negative feedback from economic downturn: income expectations and real estate sales are cooling

economic downturns are often accompanied by a weakening of residents’ income expectations. this decline in expectations will form a negative feedback loop, further exacerbating the economic slowdown.when people are pessimistic about the future economic situation, they may reduce consumption and investment, especially investment in large assets such as real estate. this cautious behavior leads to a cooling of real estate sales and a decline in sales revenue for developers, which in turn affects their capital chain and further investment capabilities. see the figure below for details.

figure: central bank survey report - future expectations decline, residents lack willingness to buy houses

data source: wind, songshan market research

the decline in real estate sales not only affects the real estate industry itself, but also has a negative impact on the upstream and downstream industrial chains.for example, demand from related industries such as building material suppliers, furniture manufacturers, and decoration service providers will also decrease, which may lead to lower product prices in these industries, reduced corporate profits, and even layoffs and bankruptcy.

in this case, the government may need to take measures to stimulate the economy. compared with lowering interest rates, directly increasing government spending, especially increasing central government leverage, may be more effective.unfortunately, this is not the policy trend in china after the fed cuts interest rates.。

source: songshan lunshi, this article has been authorized, thanks to the original author.

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the fed's interest rate cut has limited impact on china's real estate

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