Housing bubble the real problem in China
Andrew Collier says a book that blames the US financial crisis on the drop in spending caused by declining asset values should worry China, whose own housing market is at risk of overheating
One of the theories of China's slowing economy is that it will run into a "Lehman moment". This is when a single financial institution collapses, threatening the entire banking system, ultimately creating a financial crisis.
The theory has neat predictive power: find the weak links among Chinese banks, pin down a useful measure of financial liquidity - such as the interbank lending rate - and you have a nice way of keeping tabs on the strength or weakness of China's economy. The problem is the theory may be wrong.
A controversial new book proposes a different measure of looking at the underlying causes of the American financial crisis, one that may be relevant to China. The book, , by economists Atif Mian and Amir Sufi, suggests a squeeze on bank lending had little to do with the crisis. Instead, they blame aggressive mortgage lending and a surge in household debt. The collapse of house prices killed consumer spending and thus created the abrupt slowdown in economic growth.
While Chinese households are much less leveraged than the Americans of 2006, their book may have predictive value for China.
First, let's look at the evidence. The authors' main point is that the US crisis was consumption driven - and it started long before the Lehman collapse in September 2008. In fact, the National Bureau of Economic Research dates the beginning of the recession to the fourth quarter of 2007. Why did consumption collapse?
The main cause was a lending boom. Global central banks sought safe assets and the No 1 choice was US securities. They turned to a relatively small financial product called mortgage backed securities, advocated by the US government to help homeowners obtain mortgages. To satisfy demand, investment banks packaged mortgage loans into smaller and smaller pieces, or pools of mortgages. These private securitised loans rose to 50 per cent of all mortgage backed securities in 2005 from just 20 per cent in 2002.
