Fast times over for the smaller cities

There won’t be one general business crisis in China in 2014. There will be many — all local ones. Some of the local crises will be bad — as some of them already are. But collectively, they will help China create a new field of competition, in which local governments will have to try to differentiate themselves from one another to win the game of development.

For the past few decades, all local governments have been copying each other’s development strategies, which were, for the past decade or so, to keep building the economy (in GDP terms) with the money they raised from land auctions and debt financing.

At provincial and city levels, few officials have learned to do things differently. They didn’t need to. Easy credit was available to sustain the whole country’s GDP when the US and eurozone were in financial crisis.

But now, as economists have pointed out very clearly, the old development model is becoming a cul-de-sac.

That is why, one by one, smaller cities are finding it difficult to sell the housing units they have built in recent years. The towns with the most new houses and least new industry are the ones to get hurt first.

The Chinese business media has reported the divergence in housing prices between large cities (called first- and second-tier cities) and all other cities.

Even for Beijing, where the population is being continuously fed by an influx of migrants from all over the country, housing prices are far from even from one district to another. In the districts where there are few universities, fewer business centers and fewer good roads and subway lines, housing prices can be only one-third of those in Shangdi, where many of the country’s largest IT companies are based.

The growing divergence in housing prices is a reflection of the hard times that many local governments are going through.

Continuously rising housing prices in cities such as Beijing and Shanghai are only possible because of their ability to host enough outside investors and migrant workers.

But other cities that don’t have much industry to attract outside workers, especially skilled ones, cannot even earn much from land auctions.

If new housing units don’t sell well, local governments’ land auctions will no longer be attractive to private investors in local development schemes. Small wonder that, as the Chinese media reported last week, some local governments have gone so far as to require their staff members to buy some of the housing units that have failed to find buyers in the market.

This means, in the game based on the old development model, only a few large cities can win, while many other cities will fall further behind. Especially at a time of overcapacity in many fields of manufacturing, the losers can’t expect to catch up either by selling more land or attracting more investors.

This is exactly the state of many local governments. The local economy is losing steam and the officials still don’t have a workable strategy for change. In other words, they are in crisis, whether or not they acknowledge it.

It may sound paradoxical the country that has produced the world’s fastest growth record in recent times is running out of ideas for further growth, especially viable and sustainable growth, at the local level. But this squares perfectly with the latest reports about lackadaisical business activities, weak energy demand and low inflation.

It also squares with the fact that a nation ranking only about 90th in per capita GDP (there are different listings by different international organizations) can hold so much money (in both trade and capital surpluses) without knowing how to spend it.

Running out of ideas is a typical part of the learning process. At no time in the past 30-odd years has it become so imperative for China’s local officials to learn to be entrepreneurial. They can depend on the central government for general guidelines, but not for exactly what to do to differentiate themselves from other cities in business development.

This is also why we’ve got two hugely divergent views about how the Chinese economy will fare in 2014.

Those who focus on the micro-level have sent out alarms by pointing out an unprecedented crisis here or there.