Misallocation: The Chinese Real Estate Boondoggle Craze And The Coming Implosion

The Australian news program Dateline did a fascinating piece last week on something we’ve scratched the surface of a few times here on The Hayride – namely, the ghost cities and government-sponsored waste that has fueled China’s economic growth over the last several years.

China’s government has been promoting real estate developments – including massive new cities, neighborhoods, industrial parks and shopping malls – where nobody lives, shops or works for years now. They’ve been spending like drunken sailors based on the inflow of capital from a mercantile export-based economy. Dateline shows the results…

The Chinese real estate bubble, when it crashes, is going to have absolutely profound effects on the world economy. It’s also likely to destabilize the Communist Party’s hold on power and could well change what kind of rival/enemy/economic partner we have to deal with in that country.

But why did it happen, and what can we learn from it?

Well, that’s not difficult. Friedrich von Hayek and the Austrian economic school describes exactly what’s going on in China – a series of economic malinvestments made in a false economy which ultimately causes a crash.

Remember this video from a year ago?

What’s going on in China is Hayek’s nightmare on steroids. Because it’s not just a central bank enabling bad economic decisions and the taking on of projects without the resources to make them successful over there. In China it’s the entire economy. China has abandoned hard-core communism in favor of something which is more akin to corporatism/fascism, but there is no “free market” there. Economic resources are still directed by government officials and they’re generally not spending their own money.

So instead of the American real estate bubble, in which interest rates made lower than the market could tolerate and government interference in the market inducing too many people to buy homes they couldn’t afford ultimately sank an entire market sector, China has built entire cities where there is no demand for them. They’re trying to sell 64 million apartments in places nobody wants to live while other parts of the country suffer from massive overcrowding.

It’s a massive misallocation of resources, and because the government is under major pressure to keep the economic “growth” going it’s unlikely they’ll stop doing it in time to prevent the crash. And you simply cannot continue to destroy wealth ad infinitum without suffering the consequences.

So what can we learn from this? Well, for one thing if there is no private money out there driving the construction of high-speed rail and it’s just politicians who want to spend billions of dollars on it, then you can bet your bottom dollar that high-speed rail is a loser and any tax money spent on it will be wasted. And if so-called “green energy” investments require government subsidies to be profitable, those subsidies will be wasted and shouldn’t be made (no subsidies at all, in fact, would be the best policy).

And government policies intended to stimulate the economy which don’t, as Hayek suggested, set markets free will fail. Perhaps not as spectacularly as the Chinese real estate policies, but fail they will.



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