Housing Overhang

I enjoyed this excellent article from Architectural Digest on China's abandoned developments very much, it's a really great piece of reporting.

The article spotlights a development of hundreds of mini-mansions in Shenyang, dating back to 2010. Construction stopped in 2012. They've been sitting there since, and the local farmers have moved in.

The AD piece purports to explain why this happened in the sub-lede, but isn't prepared to dig into the messy financial decision-making behind this little corner of the crisis.

Very quickly I feel it is useful to consider where we are in the scope of the overbuilding situation. Shenyang is a northern city of regional importance. The overbuilding there is likely to be matched in other, similar cities, and larger, more prosperous cities will likely have substantially more overbuilding. I also think that information helps us center this disaster in terms of its relative viability: Considering the price level Greenland planned to set, that's quite a lot of capital to be expected coming out of Shenyang's economy.

In any case, in order to answer the question of why this incredible situation has transpired, we really must ask why this failed investment has been effectively abandoned.

For a decade, the development has sat there, untouched by the financial system that created it. The developer has had financial difficulties recently, and may be insolvent like the rest, but this is not the story of one failed company.

The developer, Greenland Holdings from Shanghai, seems to have a habit of not finishing projects. As I gathered information for this piece, I found a tangentially-related article from Financial Times on Greenland and how their projects in London are not going as planned. That piece also has this nugget:

In 2014, Chinese property developer Greenland Group set out to build western Europe’s tallest residential tower.

So 2 years after the Shenyang project was abandoned Greenland Group was busy spending money in the UK. Indeed that FT article is a great read to see how directed the developers were.

What forces were involved in these economic decisions? Why was this failed experiment abandoned, and by whom?

The beginning of our story is concrete (and steel). China runs on concrete; almost no other industry is protected quite as much. In 2010, as now, China's government demanded growth, and the easiest (and most profitable, if you're the government) way to get growth starts with concrete. The pressure was on, both for government officials agreeing to new development deals (creating theoretical growth, and burnishing their achievements) and for large companies, which were pressured to build and buy supplies and hire more workers.

I would note that 2012 was when a wave of political nostalgia swept the nation, sort of a precursor of Xi Jinping's later 'frugality' policies. Dowdy, obvious wealth became dangerous, and people know (or knew, then) how to read the signs. Expensive watches disappeared, locked away in a closet to wait on better times, or sometimes airbrushed out of pictures after the fact, after (directed) online anger brought down a local official. This political shift alone could have doomed the project.

Development projects like this live or die in a politicized environment. They are often partnerships with local governments. If their government patron loses power, or even just grows disinterested, then nothing will happen.

Greenland is based in Shanghai and trades city office buildings worth hundreds of millions of dollars, so they may have wanted to sell vacation homes or retirement homes to people in Shanghai. However it's just as likely that the Shenyang part of the ownership was pulling the strings. China is quite a fractured market, it's not easy for the southerners go to up north and get things done their way.

Now, to the buyers. A quote in the AD article from a local farmer states that no one bought any of the mansions, despite the progress of development, but I don't know if his information is correct. The mansions have stone facades, chandeliers and other late-development features.

A heavy layer of dust and scraps of garbage are the only furnishing in the rooms, a stark contrast to what appears to be marble floors and columns, crystal chandeliers, coffered ceilings, and intricate marquetry. In what would have been the sales center, a model of the completed 260-villa neighborhood still sits.

'What would have been the sales office'. We should keep in mind that the pre-sales boom in China housing only happened relatively recently, but in general in land development sales should be happening along with construction. If sales had not even begun...it is left to the reader to consider the social forces that led to this.

Another interesting feature is the vastness of the complex: Rather than building a few concrete shells as they ramp up their sales teams, they just...built them all, over 250 of them. Perhaps not all as planned, but they seemingly worked pretty hard for 2 years.

Still, we are left with the possibility, perhaps the probability of some buyers, and so we must ask why the buyers would sit quietly for a decade, with their money gone and no finished mansion. But then we realize that such a small group of people has no way to demand compensation in China today. In theory they can file a court case, but that is by no means an effective solution.

Now, consider the developer's position: For the developers, they have enormous pressure from the government to drive employment and the economy. They have pressure to be profitable, of course, but they also need to have a positive growth rate. Regulators have the same pressures, if there are any true regulators out there that are not, by now, political actors, searching for political misdeeds.

This project is dormant, but it almost certainly is sitting on the assets side of Greenland's books. The intense demand for growth has made it impossible to declare a loss of this scale. This is not to say that even a total loss on this project would bankrupt Greenland, just that the demand for growth and profitability both made accepting any loss on this project extremely difficult. Similar projects will appear, like litter, in all of the developers' books.

So, the story here is one of forced growth, and political decisions stripped of economic logic. There is seemingly no effective means of transferring property interests from those unable or unwilling to finish development and create economic value to those that can.

This failed project sits on the balance sheet, waiting for a day of reckoning that has yet to come.