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China's Real Estate Bubble May Have Just Popped

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35% drop in one month alone would send a few developers to the wall! :o

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For years analysts have warned of a looming real estate bubble in China, but the predicted downturn, the bursting of that bubble, never occurred -- that is, until now. In a telling scene two months ago, Shanghai property developers started slashing prices on their latest luxury condos by up to one-third. Crowds of owners who had recently bought apartments at full price converged on sales offices throughout the city, demanding refunds. Some angry investors went on a rampage, breaking windows and smashing showrooms.

Shanghai homeowners are hardly the only ones getting nervous. Sudden, steep price reductions are upending real estate markets across China. According to the property agency Homelink, new home prices in Beijing dropped 35 percent in November alone. And the free fall may continue for some time. Centaline, another leading property agency, estimates that developers have built up 22 months' worth of unsold inventory in Beijing and 21 months' worth in Shanghai. Everyone from local landowners to Chinese speculators and international investors are now worrying that these discounts indicate that "the biggest bubble of the century," as it was called earlier this year, has just popped, with serious consequences not only for one of the world's most promising economies -- but internationally as well.

What makes the future look particularly bleak is the lack of escape routes. If Chinese investors panic and rush for the exits, they will discover that in a market awash with developer discounts, buyers are very hard to find. The next three months will be a watershed moment for a Chinese investor class that has been flush with cash for years but lacking a place to put it. Instead of developing a more balanced, consumer-based economy, an entire regime of Beijing technocrats -- drunk on investment-led growth -- let the real estate market run red hot for too long and, when forced to act, lacked the credibility to cool the sector down. That failure threatens to undermine the country's continued economic rise.

Real estate woes are already sending shockwaves through China's broader economy. Chinese steel production -- driven in large part by construction -- is down 15 percent from June, and nearly one-third of Chinese steelmakers are now losing money. Chinese radio reports that half of all real estate agents in the southern city of Shenzhen have closed up shop. According to Centaline, more than 100 local government land auctions failed last month, and land sale revenues in Beijing are down 15 percent this year. Without them, local governments have no way to repay the heavy loans they have taken out to fund ambitious infrastructure projects, or the additional loans they will need to keep driving GDP growth next year.

In a few cities, such as coastal Wenzhou and coal-rich Ordos, the collapse in property prices has sparked a full-blown credit crisis, with reports of ruined businessmen leaping off building rooftops; some are fleeing the country. The central bank's decision on December 5 to lower the reserve requirement ratio for the first time in three years signaled a broader move to pump money into the economy. Beijing has directed banks in Wenzhou to extend emergency loans to troubled borrowers. Of course, officials could halt the sell-off simply by handing developers enough cheap loans to allow them to carry their inventory. But such a strategy risks re-inflating the bubble.

The impact of a housing downturn would have a significant impact globally. International suppliers who have been fueling China's construction boom -- iron-ore miners in Australia and Brazil, copper miners in Chile, lumber mills in Canada and Russia, and multinational equipment makers such as Caterpillar and Komatsu -- could be hard hit. Heavy losses on real estate and related lending could damage investment and consumer confidence, undermining the rising tide of Chinese demand that has been a much-needed growth engine for everything from Boeing airplanes to Volkswagen and GM automobiles to KFC and McDonald's fast food.

Understanding how this came to pass means parsing the host of distortions and mind games that characterize China's real estate market. Residential real estate construction now accounts for nearly ten percent of the country's total GDP -- four percentage points higher than it did at the peak of the U.S. housing bubble in 2005. Bullish analysts have long argued that large-scale urbanization and rapidly rising incomes warrant such an extraordinary boom.

But new urban residents are not the immediate drivers of China's recent run-up in real estate. Chinese investors, large and small, are the ones creating the market. For more than a decade, they have bet on longer-term demand trends by buying up multiple units -- often dozens at a time -- which they then leave empty with the belief that prices will rise. Estimates of such idle holdings range anywhere from 10 million to 65 million homes; no one really knows the exact number, but the visual impression created by vast "ghost" districts, filled with row upon row of uninhabited villas and apartment complexes, leaves one with a sense of investments with, literally, nothing inside.

The craze for vacant real estate is due in large part to a lack of attractive alternatives. Strict controls on capital outflows prevent most Chinese citizens from investing any real money abroad. Chinese bank deposits earn very low interest rates -- lower, for the past year now, than the rate of consumer inflation. The public sees the country's domestic stock exchanges, which have endured volatile ups and downs over the last few years, as little more than high-risk casinos. In contrast, real estate, which has not seen a sustained downturn since China first converted to private homeownership in the 1990s, has long looked like a sure bet.

Beijing's response to the global financial crisis added jet fuel to the fire. To maintain GDP growth of nearly ten percent during a massive downturn in global demand, China's leaders engineered a lending boom that expanded the country's money supply by roughly two-thirds. Real estate was already the preferred place for the Chinese to stash cash; now, investors had that much more cash to stash. Prices rose accordingly: In many locations, the cost of prime new properties doubled in just two years.

But this run of speculation has bid up the price of housing and left people who actually need a place to live in the lurch. Given the prices prevailing earlier this spring, the average wage earner in Beijing would have had to work 36 years to pay for an average home, compared to 18 years in Singapore, 12 in New York, and five in Frankfurt. The bidding war has further pushed developers to build ever more costly luxury properties that investors crave but few ordinary people can afford.

By the spring of 2010, China's leaders were growing increasingly worried that skyrocketing prices were sowing the seeds of social unrest. In response, Beijing imposed a series of cooling measures to rein in speculative demand. These included a stipulation for larger down payments, tougher qualifications for mortgages, residency requirements for home purchasers, and limits on the number of units a family could buy. Although these restrictions were mainly confined to Beijing and Shanghai, where central authorities hold the greatest sway, they were meant to send a clear signal that China's leaders wanted property prices to level off.

Real estate developers, however, believed they had seen this movie before. They had witnessed earlier cooling campaigns, as recently as early 2008. Each lasted a few months before reverting back to business as usual. Local governments depend on a healthy real estate market to generate revenue from land sales (as the state owns the land), and property development has long been a key driver of the GDP growth that the central government both demanded and prized. Let them see the effects of a slowdown, developers figured, and China's leaders would rush back in to support the sector. They always had before.

So the property developers bet against cooling. They continued borrowing and building, even in the face of a relatively soft and uncertain market. Until that point, Chinese developers had been able to move everything they built, usually pre-selling it before it was finished. But starting in the late spring of 2010, they began piling up substantial stocks of unsold inventory, for the day when the government would, so they thought, relent and demand would come surging back.

Because the industry kept on building, there has been no negative impact on GDP. Real estate investment has continued growing at nearly 30 percent annually. But inflation began to rise from 1.5 percent in January 2010 to a peak of 6.5 percent in July 2011, and authorities began to sweat. They broadened their cooling efforts. The central bank tightened credit expansion, and China's economy began to slow. As 2011 progressed, developers scrambled for new lines of financing to keep their overstocked inventories. They first relied on bank loans (until they were cut off), then high-yield bonds in Hong Kong (until the market soured), then private investment vehicles (sponsored by banks as an end run around lending constraints), and finally, in some cases, loan sharks. By the end of last summer, many Chinese developers had run out of options and were forced to begin liquidating inventory. Hence, the price slashing: 30, 40, and even 50 percent discounts.

The biggest unanswered question is whether existing investors -- the people holding all those sold but empty "ghost" condos and villas -- will join in the sell-off, which could turn the market's retreat into a rout. So far, that has not materialized. Unlike highly leveraged developers, most multi-home buyers invested their own money and do not face the same immediate pressures to sell. However, their willingness to hold idle properties depends on real estate's reliability as a store of value -- a rationale that seems to be disintegrating before home buyers' eyes. While pre-owned home prices in Beijing fell only three percent last month, transaction volumes there and in other cities have plummeted (down 50 percent year on year in Shenzhen, 57 percent in Tianjin, and 79 percent in Changsha), suggesting that many owners would like to sell -- so long as it is not at a loss -- but are having trouble finding buyers. Would-be residents, who once felt pressured to buy before prices rose even further, now prefer to wait and look around for a better deal.

In recent weeks, a growing chorus has called on the government to lift restrictions on multiple home purchases -- revealing, when push comes to shove, just how much the market has come to depend on investor, rather than end-user, demand. But both types of demand depend, in their own way, on the assumption of ever-rising prices. Unless that assumption can somehow be restored, neither looser regulation nor looser lending will persuade the Chinese to pile back into property. Just as elsewhere, China's monetary authorities may find themselves, as it's said, pushing on a string of unwilling demand.

Ironically, as Chinese investors start pulling their money out of property, many are putting it into bank- and trust-sponsored "private wealth management" vehicles that promise high fixed rates of return but channel the proceeds into investments -- like real estate developers and local government bonds -- whose returns are themselves predicated on ever rising property prices. Many fear this repackaging of real estate risk is laying the foundation for a follow-on crisis that some are labeling the Chinese equivalent of Wall Street's collateralized-debt-obligation mess.

While frightening, the popping of China's real estate bubble is not all bad news. Cheaper, more affordable housing could also unlock the savings of China's working-class families, unleashing greater consumer demand and helping to rebalance the global economy. Investment long bottled up in idle real estate could flow to more productive pursuits. These adjustments have been put off too long. This is why at least some of China's leaders appear determined to force a correction despite the risks. But they know they are walking a razor's edge.

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a 35% drop is phnomenally large!

I think the bubble has popped for China's Real Estate.

Anyone have any properties in China?

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a 35% drop is phnomenally large!

I think the bubble has popped for China's Real Estate.

Anyone have any properties in China?

There must be chinese investors who own property in both China and here, wondering if Australia might follow China.

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http://www.marketwat...woes-2012-01-05

Jan. 5, 2012, 10:01 p.m. EST

China faces social unrest from housing woes

But Beijing likely to keep a lid on serious opposition

By Chris Oliver, MarketWatch

HONG KONG (MarketWatch) — Irate Chinese homeowners are among the top policy concerns for Beijing this year, according to analysts who say weakening house prices are stoking serious tensions.

Financial author and CSLA Singapore managing director Fraser Howie calls it the “real unknown” of 2012, as there’s no track record of how this newly emerged class of homeowners would react if the current softening in residential housing prices turns into a prolonged decline.

“It’s too difficult to analyze what’s going to happen,” he said, citing the difficulty in sourcing accurate statistics on the property market and the short history of property ownership in China.

For the most part, property owners have never had to deal with falling prices since the 1998 policy change that helped what’s now viewed as the launch of the modern era of private-home ownership in China.

City University of Hong Kong political scientist Joseph Cheng agrees, saying that “China’s middle class are not used to business cycles yet.”

He points to disgruntled home buyers in Shanghai who protested developers’ price-cuts of unsold stock in blocks where they’d recently purchased apartments as an example of the grievances now being expressed by the middle class.

China's property slowdown spreads to other sectors

China's intervention in the property market may be going too far, as the home furnishing sector is now feeling the pinch.

Some buyers in other Chinese cities could take to the streets this year, adding to a darkening social mood that includes other protest movements involving land and labor rights.

“This is going to be a difficult year — because of the political development trend, you [can] certainly expect more unrest,” Cheng said.

Also among the government’s concerns, said Cheng, is the likelihood that falling home prices could negatively impact consumer confidence and derail attempts by the government to foster consumer consumption as a driver of the economy.

“If real-estate prices fall, this will certainly discourage consumption,” Cheng said.

Residential property values have moved lower in recent months, in part due to government restrictions on home purchases made over the past year in an effort to prevent a housing bubble from inflating to dangerous size.

CLSA’s Howie notes additional economic casualties in the form of real-estate developers and property agents having to close up shop.

Still, he believes the government is likely to flex its considerable fire power to shore up the market against a more serious price drop.

“The government can’t afford to let it get to those levels and disillusion the middle class,” he said.

Instead, Beijing is likely to deploy its huge cash pile to smooth over the housing market and a number of other social issues, he said.

“It’s not going to let the market run its course,” Howie said, referring to what he believe will be a “proactive” approach to support asset prices at some point.

Keeping the economy on an even keel and insuring social stability is especially important for Beijing right now, given that the Communist Party is due to transfer leadership this year. See report on China’s upcoming leadership change.

But Howie also says that, given the coming changes, the current administration is more likely to focus on stability rather than sweeping moves to address the issues.

“You will see a proactive government responding to these problems, not solving them, but managing them to a large extent by throwing money at them or rolling over bad debts,” Howie said.

Beijing learning lessons

City University’s Cheng says tensions over the housing market are emerging, even as authorities are proving more adept at defusing conflict in other areas.

He points to December’s protest in the southern costal community of Wukan as one example.

Frustrations in Wukan over corrupt land deals by the village elite — and the death of a protester there — boiled over when 13,000 Chinese citizens took to the streets, sending the local Communist Party officials fleeing and beating back attempts by police to retake the town.

Intervention by provincial-level authorities, using a soft-glove approach that involved listening to protester’s grievances and offering cash, eventually helped to calm nerves.

“Chinese authorities have been quite sophisticated in dealing with these mass incidents,” Cheng said. “They want to deal with it in a very soft manner, without trying to exacerbate the contradictions.”

Some of the current approach appears rooted in efforts during the first half of 2010 to defuse labor disputes along China’s east coast.

Amid industrial actions by workers demanding better wages and conditions, the authorities found the best strategy was to allow the strikes to go ahead in a controlled fashion, a decision that eventually resulted in major concessions by employer groups.

For the most part, officials still appear willing to work to resolve grievances as long as protesters don’t organize into a separate union or body that could present a direct challenge to the Communist Party, says Cheng, adding that the concept of organized political opposition remains taboo in China.

He said the current wave of demonstrations across the country ranks among the most vocal since the late 1980s, a period in which high inflation fostered a wave a national discontent that culminated in the 1989 protest movement centered around Beijing’s Tiananmen Square.

Still, Cheng said the current social mood shouldn’t been viewed anything like the movements that toppled several Middle Eastern regimes last year.

China could eventually undergo major political reform, though any change to the current regime structure is unlikely within the next five years, he said.

Cheng believes spontaneous outbursts are likely to occur with increasing frequency this year, but he adds that students of modern China should keep in mind that much of the country’s urban population is pleased by improvements in their standard of living in recent years.

And many mainland Chinese citizens expect those improvements to continue in the decade ahead.

“In next 10 years, they still want things to be better off, so they don’t want instability. They really accept the status quo,” said Cheng.

As much as I deeply respect the Chinese Government and their dedication to keep their citizens happy (No cynicism! They have to!), this will be a difficult issue to manage.

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As much as I deeply respect the Chinese Government and their dedication to keep their citizens happy (No cynicism! They have to!), this will be a difficult issue to manage.

Don't worry about the chinese government - they have tanks as a backup and are not afraid to use them!

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Don't worry about the chinese government - they have tanks as a backup and are not afraid to use them!

Soldiers may have investment properties too...

I do not believe that China will turn tanks against its own population. 2012 is not 1989.

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Soldiers may have investment properties too...

I do not believe that China will turn tanks against its own population. 2012 is not 1989.

Totalitarian regimes don't like to give up without a fight - just look at the current arab spring. Gorbachev would be one of the few exceptions that I can think of. Burma, which is next to China, is not giving up in a hurry (let alone North Korea).

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I do not believe that China will turn tanks against its own population. 2012 is not 1989.

Don't you believe it?

You should, because 1989 was not 1989. Meaning that most people were aghast that a country could treat it's citizenry like that, even way back in the bad old days of 1989.

China is not yet as tame as we would hope.

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Soldiers may have investment properties too...

I do not believe that China will turn tanks against its own population. 2012 is not 1989.

some people in tibet might disagree with that assessment. china will do what it needs to do to quash any protest before it catches hold and spreads.

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isnt it a death sentence for not doing exactly what the f*ck you're told over there?

even discussing the rights and wrongs of china like we do here on this forum would prob be banned.!

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Totalitarian regimes don't like to give up without a fight - just look at the current arab spring. Gorbachev would be one of the few exceptions that I can think of. Burma, which is next to China, is not giving up in a hurry (let alone North Korea).

I visit China several times a year. Have local friends there and business connections. (I am not of Chinese origin). I would NOT call it a totalitarian regime.

If at all - the government/political system is a hostage of the well being of the people, rather than the people are hostage of the system.

I see it as a slient understanding when the citizens are ready (and knowingly willing!!) to live without certain Western perks such as Facebook when in return they have a more effective and efficient political system. A system which has proved its efficiency every year in the last two decades of constantly improving life to all. And nobody can argue with these facts.

As long as the everyday life of most citizens in China is improving (and it is!), they would have no problems with a political system which is effective, allows by the way lots of personal freedom to every citizen (look at the growing number of middle class in CN, Chinese tourists around the globe, not to mention the millionaires), even when it is not democratic. They knowingly perfer order and a proven path of progress to some vague forms of freedom like chosing between Gillard and what's-his-name on the other side?

The problems of the system will begin when this silent understanding and agreement stops. When life stops from improving. Even when the constant trend upwards becomes a plateau. Then the disgruntled may demand a political change when in fact they would rather see an economical improvement.

It's the economy. Only.

This is why, to survive, and to keep things going, the Chinese government has the well being of its people as a first and foremost goal. And would never dare to aim tanks at those whom it fears the most.

PS - I highly recommend you to visit this amazing country if only as tourists. Nobody came back from China with their prejudice intact.

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where do you work the ministry of truth or something?

Not at all... Please believe me. :--)

Even better - go to CN, see for yourself.

Return tickets from SYD to Guangzhou or Shanghai are around $700-$800. Worth it.

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Not at all... Please believe me. :--)

Even better - go to CN, see for yourself.

Return tickets from SYD to Guangzhou or Shanghai are around $700-$800. Worth it.

Love to go. :) Time is the problem.

The ability of China to shift from exports and investment to domestic consumption is IMHO a key question. It is a tightrope. A command economy might make it easier but they still have some major obstacles to overcome. Corruption is a biggy. (As your article above suggests)

I read somewhere China needs 8% GDP growth to maintain social stability. To be sustainable they can't keep the level of stimulus they've been providing since the GFC. This means at some point they will have to accept lower growth. It's difficult to know whether the bigger threat will come from a disappointed middle class or the masses who are missing out on the benefits of the boom. Time will tell.

The brighter side of the command economy are that TV shows like these get canned. :)

The men boasted of their bank accounts, houses and fancy cars. The women were svelte and sassy, dousing suitors with acid putdowns. But mixed into the banter were trenchant social issues that urban Chinese from their 20s to 40s grapple with, if not always so publicly: living together before marriage, the unabashed pursuit of wealth or the government's one-child policy.

''Through this show, you can tell what China is thinking about and chasing after,'' said Wang, a veteran television producer.

The show, If You Are the One, broke ratings records in the first half of 2010. More than 50 million people tuned in. The sauciest contestants became sensations - one aspiring actress famously rejected a man offering a bicycle ride by saying, ''I'd rather cry in a BMW.'' The show attracted huge interest from Chinese overseas; some students on American campuses even filmed their own versions. It increased the nation's cultural influence, which China's leaders crave.

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Pascoe weighs in. He sees the bursting of the chinese property bubble as a good thing but there's no bubble here.

The real housing affordability policy causing angst

And the thing about the many housing debates is that every issue tends to be seen in black and white by the proponents, leading to little compromise and a great deal of heat. But I'm not buying into any of that in this column – I just want to point to the confusion about the state of the housing market and policy in Australia, a country with pretty solid data and relatively good transparency on policy.

Transparent data and policy? Are we talking about the same country? He mustn't have read Chris Vedelago recently and his struggles to get data. It's all top secret or supplied at significant cost.

How very much harder then to know what's really going on with housing in China, where data is considerably more ropey and policy can be extremely murky out in the boonies. That hasn't stopped any number of instant experts popping up around the place claiming they exactly know what's going on and the dire consequences that will follow for Australia. We'll overlook for now the tendency of some of the alleged experts to be China bears of one sort or another, part of the frustrated industry devoted to knocking the China story.

I think that's us (as opposed to Pascoe).

Beijing's economic leadership knows urgent financial reforms are needed to keep China's transition on track and just that knowledge is encouraging. (It's hard to say the same thing about the US, Japan and much of Europe at present.) One of problems to be tackled is that Chinese save too much and have limited options when it comes to gainfully employing those savings. A poor social safety net means people have to save, but bank interest rates don't cover inflation and the stock market is more casino than investment machine.

Which meant there were rivers of money pouring into real estate speculation, but not building the sorts of apartments Beijing wants to see built. So the speculators have been hit over the head by a variety of policies with the aim of reducing prices.

Yes they have been building apartments wrongly (with four roofs and one wall). Sounds like a Aardman film. The Wrong apartment. No wonder prices have declined.

Edit: I'm rapidly coming to the conclusion that no matter how much property declines there will always be some spruiker telling you no, it's not a bad thing for property and it's time to buy now. A 35% decline is a property crash Pascoe, no matter how you try to dress it up. If it were Australian developers going bust you'd be telling a different story.

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Probably they will have thought about this problem already, since it has been obvious for quite a while. Who really builds giant cities with noone living in them because all properties are hold by investors and expects it to work? This does not seem healthy at all. The effects this will have on Chinese Government, people and economy could probably be very heavy.

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Probably they will have thought about this problem already, since it has been obvious for quite a while. Who really builds giant cities with noone living in them because all properties are hold by investors and expects it to work? This does not seem healthy at all. The effects this will have on Chinese Government, people and economy could probably be very heavy.

Well I'll say this for the chinese government. They have recognised and acted to diffuse a speculative bubble. They have a lot more cohones than the Australian government. If Pascoe is right and the motivation is to achieve social cohesion through providing affordable housing then the chinese government are more savvy as well.

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Second shoe drops in China

A typical recession, as I have noted many times,* is precipitated by a bursting property bubble: property sales fall first, followed by property prices, then GDP.

My attention was therefore arrested by two graphs that appeared in Box A (“China's Residential Property Market”) in the RBA's latest Statement on Monetary Policy. The first (in the order in which I reproduce them) shows that land sales peaked around Christmas 2010.

rba-smp-feb2012-ga3.png

The second (in the right-hand frame) shows that the peak in home prices came one or two quarters later than the peak in land sales.

rba-smp-feb2012-ga1.png

The story concerning sales of floor space (in the left-hand frame) is more complex, perhaps due to changes in government policy: stimulus from late 2008 to early 2010, followed by various anti-speculative measures. But the subsequent peak in sales in late 2010 still preceded the peak in prices in 2011.

Rapid growth in prices through 2007 and 2008 caused rental yields to fall below 3%. Such low yields made price declines inevitable. Official loan/valuation ratios, which look conservative, must be regarded with suspicion on account of the “shadow banking” system. Price declines will hurt more than official figures suggest.

So it is sufficiently clear that we are witnessing the second stage of a housing crash. How this affects the productive side of the economy depends on a great unknown: how does a command economy deal with bank failures?

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Another article on Ordos, Mongolia, from the BBC.

http://www.bbc.co.uk/news/magazine-17390729

In Inner Mongolia a new city stands largely empty. This city, Ordos, suggests that the great Chinese building boom, which did so much to fuel the country's astonishing economic growth, is over. Is a bubble about to burst?
It looks to outsiders as though the great Chinese building boom is over, the real estate extravaganza that shook the world.

Western financial experts who fear a bursting of the Chinese real estate bubble point out that the Chinese economy is more dependent on house building than the United States economy was, before the sub-prime lending bubble burst in 2007.

Many Chinese local authorities seem to have become dependent on the proceeds of big land sales to developers.

In the eyes of the critics, China's housing boom is becoming a disaster.

It is common practice in China where there is a big grey market in private loans to private businesses who cannot get money from the big, official, state-owned banks.

Mr Li's private financier naturally invested the money in property, and paid him interest every three months at the rate of about 40% a year.

Mr Li had put the equivalent of over $1m (just over £600,000) into such schemes.

For two years they paid out, but last year the interest payments began to dry up.

Then one of the financiers disappeared.

This has become a very familiar story in China now, one that is making big headlines as some famously rich private finance people come up for trial on charge of huge financial irregularity. China's 68th richest woman, Wu Ying, is facing the death penalty for schemes she ran in her 20s.

At least half of Mr Li's money now seems to have disappeared.

As a Mongolian, he told me he was very angry when it happened last year. But now his mood has changed to a curious, fatalistic resignation, quite unlike Genghis Khan.

"Once we were rich, and now we're poor again," said Mr Li, with something like a wry grin.

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