Monday, November 01, 2010

Beer Housing at Champagne Prices

"According to James Shein, Ph.D., turnaround specialist and professor at the Kellogg School of Management at Northwestern University, companies should start by plotting their place on a "Phases of a Crisis" chart. The earliest stage is indicated by a company essentially blind to eroding conditions undermining its business. This is followed by acknowledgement but inaction, followed by faulty action in hopes of a quick fix, followed by full-blown crisis and finally dissolution of the enterprise. According to Shein, failure to take action at any point on the curve means the enterprise inexorably moves to the next point."(from here)

The Taipei Times reported again on the continued rise of housing prices in Taipei this week. The Taipei city housing bubble is now spilling over to other parts of the nation:

Taiwan’s housing prices are likely to hit a new high in the current quarter, the traditional high season, because the central bank’s selective credit control measures failed to cool the property market last quarter, real estate experts said last week.


They called on the monetary policymaker to take stronger tightening measures as mild credit controls served only to push housing prices up in other parts of the nation, which was highlighted in a recent survey jointly conducted by Cathay Real Estate Development Co (國泰建設) and National Chengchih University.

Average house prices reached a record level for the second consecutive quarter of NT$209,600 (US$6,809) per ping in the July-to-September period, rising 6.22 percent from three months earlier and 15.43 percent from a year ago, according to the survey released on Thursday. One ping equals 3.3m2.

Chang Chin-oh (張金鶚), a land economics professor at Chengchih University and advocate of credit tightening, said excess liquidity and a rosy economic outlook more than offset the central bank’s interest rate hikes and selective credit controls in the whole of Taipei City and 10 popular areas of Taipei County.
According to the report, housing prices in Taipei have surged 20% year-on-year. In Taipei county, housing prices jumped nearly 9% this quarter and almost 23% year-on-year. In Taoyuan and Hsinchu, prices rose 11% year-on-year, while in Taichung the jump is a more modest 5%, falling to 3.3% in the Kaohsiung and Tainan areas.

How awesome has the rise been? An enormous wealth bubble has developed in Taiwan:
In 2009, according to a recent Merrill Lynch report, the number of wealthy people in Taiwan, defined as those having investable assets of more than US$1 million, increased by 42.3 percent. For this to happen in a year when Taiwan experienced the lowest level of growth in its history is a reflection of how spectacularly the housing and stock markets have risen.
The property bubble looks suspiciously like a pump and dump. Long before Ma's election the global and local financial sector, which strongly backed Ma and the KMT, started churning out reports claiming that Chinese were going to boost the local property market through new investment. There was a frenzy of luxury residential construction, still ongoing, in Taipei, but also in Taichung, an important factor in support for the incumbent mayor, KMT heavyweight Jason Hu.

Who is buying these properties? At present the boom is driven in part by Taiwanese businessmen returning from China with wads of cash. Another factor is the expectation that Chinese and foreign firms and investors, lured by ECFA, will set up shop in Taipei. Yet another issue, as I pointed out last year, is the change in political status. The new municipalities of Kaohsiung and Tainan and Xinbei (Taipei County) theoretically will have bigger budgets, which will enable them to dole out more cash on infrastructure, driving up local land values.

As long as the credit taps flow and the cash flows in from outside -- as long as the System can keep leveraging -- then the construction will continue to go on. A land use specialist at a local university explained at one of Jerome Keating's meetups that on average, a large tract housing or apartment complex need only sell half its units for the builder to break even. Thus a housing bubble can take place even though in many areas many housing units are empty -- in Taichung something like a third of all housing units stand empty.

Bubbles exist to rape the middle class of its savings, and here there is no exception. New home buyers are typically young and even with today's two income families they can't afford to buy a house. Hence mom and pop typically step in with the large sum needed up front, meaning that the housing bubble is relieving the previous generation of its savings while plunging the current into debt. This hurts the most frugal, since households with the highest propensity to save are the most likely to purchase a house. Since housing assets are a major portion of household assets in Taiwan, it follows that when the Bubble pops there are going to be a great many humble, hardworking families wiped out.

The System also robs homeowners in myriad other ways. In Taiwan prior to the 1990s, building floor space was determined by building height, which was determined by the width of the road the building faced: height could be no more than 1.5 times the width of the road + six meters (source). In other words, the law took no cognizance of other valuations of the land in determining the height of the building -- which is why in so many downtowns throughout Taiwan, buildings remain short despite the fact that the land appears to have great potential value -- if it were located in some other country where essentially, the value of the land determined the height of the building, and not the other way around.

In the 1990s this changed and a volume control was implemented. This is a simple ratio of size of building to land area. In Kaohsiung, for example, in some residential areas this ratio is 240% while in some commercial areas it is 490%. Under that system, total floor space of the residential area of 2000 square meters would be 4800 square meters (source).

In other words, the size of the building is determined not by the desire of the builder or owner or some other economic concern but by bureaucratic fiat. There are a couple of other regulations but that is the basic law. The change in the 1990s had a powerful effect -- under the old system Taipei could contain over 5 million people, under the new, just under 2 million. Imagine the demand pressure the new system created, simply by bureaucratic fiat. Free cash for developers!

This system is actually a quota -- a restriction on production. Imagine if there were a law that restricted the production of watermelons to 10 per farmer. What would the price of watermelons be? The supply would constrict and the price would skyrocket. Yet the cost to the farmer would not change -- the price of water, fertilizer, etc, per melon would not go up. The extra dollars made per watermelon would thus be pure profit, earned because the government has set a production quota.

Similarly, in Taiwan, there is a restriction on the amount of floors -- floor space -- that a given section of land can produce: X land can only produce Y building floor space. But the cost per unit of floor space area doesn't change (there is a small loss for volume) -- the price of cement, glass, rebar, etc -- is not affected. Hence, construction companies are like watermelon farmers -- they sell less space at higher prices (demand is not affected), recovering the savings of the middle class and reinvesting them in the construction-industrial developmentalist state that has shaped Taiwan's built environment. The land use laws thus appear to benefit financiers, developers, construction firms, and related industries.

This also explains in part why Taiwanese crowd into the streets and public spaces with their private things such as signs and vending stands, expand balconies out, and add illegal floors to the top of every building. They need Z space to live in but can only purchase Y thanks to the government restriction on the production of floor space. They crowd into the public domain because they must, not because they are an inherently lawless people. You only have to look what happens when people have enough money to purchase a large private home -- they no longer carry out private activities or place private things in public areas.

Now add the bubble. Will the Taiwanese middle class go the way of the American middle class?

Interestingly enough, neither party appears willing to make an issue out of this. Interestingly enough, while the public complains, they appear to regard it as a condition of existence, like gravity or the weather, which they expect the government to ameliorate, rather than something man-made and aimed at their pocketbooks.
Don't miss the comments below! And check out my blog and its sidebars for events, links to previous posts and picture posts, and scores of links to other Taiwan blogs and forums! Delenda est, baby.


Okami said...

Neither party can make an issue of it because they both derive so much money from the system as it stands. I'd also hate to see what would happen to their families if they came out against an industry so rife with organized crime.

Eventually more Taiwanese will rent or become house-poor. Owning a home is sort of mandatory due to the household registration. I expect home ownership in the US to return to pre-WW2 levels with the vast majority renting as the subsidization of home ownership declines due to the subsidies being unbearable for the govt at large and the several million homes/property that will have clouded titles.

It shocks me when you write posts like this yet you still seem to abhor free market capitalism with low govt regulation.

Michael Turton said...

It shocks me when you write posts like this yet you still seem to abhor free market capitalism with low govt regulation.

It shocks me that you divide the world into such simplistic dichotomies as free market/not free market. I don't make that distinction, because a free market is to economics what unicorns are to zoology.

The issue is not free/unfree but what kind of market would serve the purposes of society? Clearly this market is arranged to screw the public and enrich the construction-industrial state. It is a market in which the public in the form of home buyers is strictly regulated but home builders are unregulated.

It seems obvious that different market arrangements, such as the US, where zoning is locally controlled, land values reflect land usage, and home builders are locally regulated with regional oversight, might produce better results. That is not a "free" market either, but it is one that is vastly more efficient from the social outcome point of view. It is not yet very efficient -- the regulatory process is captured by the construction industry though not as badly as here -- and thus many things, such as solarization, power conservation, etc, are not carried out when they should be.


Michael Turton said...

I agree, btw. Eventually more Taiwanese will rent or become house poor. One aspect of housing in Taiwan is that rentals remain cheap even though housing is expensive.

The tie-in between home ownership and IDs is a nifty observation and one I shoudl have mentioned. Nice.

les said...

A few people in the real estate business have told me that prices in Taichung are held up not only by the hot money Taishang brought back with them, but also that of their Chinese friends. They are not just buying apartments for Chinese investors, they are buying buildings. Returning Taishang are helping the Chinese inflate the bubble because they know they will also profit.

Anonymous said...

Housing prices are becoming an issue with the parties, in at least one instance, presumably in belated response to heavy coverage in the press.

Check out Hau Lung-bin's bizarre election promises to build apartments on one of the wealthiest strips of Renai Road for struggling young families, and Su Tseng-chang's sharp (if not comprehensive) response.

Okami said...

After reading the blog post of Lao Ren Cha, I wonder what a graph of Taiwan's marriage rate overlaid with Taiwans's housing price inflation would look like.

Anonymous said...

I recently saw a news report linking Jason Hu to a prominent developer.

Anonymous said...

I recently saw a news report linking Jason Hu to a prominent developer.

Who does that remind me of the line in the song "Chicago" -- "I saw a man; he danced with his wife..."

It's the kind of info that isn't/should be suprising.

les said...

Another friend in real estate talks about Hu's connections with developers like it's common knowledge. He's following Lin Bo-rung's model for Taichung. Pick an area, send friends and relatives to go buy the land cheap, re-zone it for development and then spend the city's money making sure the project goes forward.
I'm pretty sure this is an open secret as Hu apparently is on the board of many developers.

Anonymous said...

In the western housing debacle one of the outcomes was massive foreclosure shenanigans. I have met 2 Taiwanese who told me they were still paying mortgages on 921 destroyed properties. Could you do a post/have you done a post on "how to" default on a loan? One person, a woman, implied leg breakers would be involved in her collection process. The credit card crisis a few years ago seemed to show an enlightened and benevolent regulatory and banking system. I must be deluded?

Michael Turton said...

les.... that's what I have heard too.