China's cooling property market could shave more than 2 percentage points off 2012 growth, forcing Beijing to decide just how badly it wants to keep the economy expanding at more than 8 percent a year.
Even if the world's second-biggest economy avoids a housing crash, slower property investment is almost certain to constrain growth. That assumption was built into economists' predictions that the economy will slow in 2012, but data released this week suggests housing may take an even bigger chunk out of growth.
China's investment in real estate development rose 28 percent to 6.17 trillion yuan (635 billion pounds) in 2011 -- a full $200 billion (130 billion pounds) more than the United States put into residential real estate at the peak of its housing bubble in 2005.
Unlike the United States, China does not have an oversupply of housing. In fact, the government has pledged to build 7 million units of public housing in 2012 after an estimated 10 million in 2011.
But in order for property investment to add to GDP growth, it has to keep getting even larger each year, and with real estate prices falling and developers scrounging for credit, China will be hard pressed to outdo 2011's strong showing.
"If they build the same amount (in 2012) that they did last year, which is still a phenomenal rate of construction, then it would take GDP down to 6.6 percent," said Patrick Chovanec, an economist who teaches at Tsinghua University's School of Economics and Management in Beijing.
That would be a dramatic slowdown from 2011's 9.2 percent growth, and it doesn't even include potential indirect impacts that typically come with a housing slowdown, such as falling demand for building materials or a rise in banks' bad debts.
Graphic on China GDP: here
China's latest economic plan targets GDP growth of 7 percent, but economists widely consider 8 percent as the minimum needed to generate sufficient job growth and support social stability -- top priorities for the Communist Party.
The Chinese phrase "bao ba", or protect 8, is a commonly used line, illustrating Beijing's unwritten imperative to keep annual growth above that threshold.
"It's something that's almost ingrained within the (Communist) party," said Alistair Thornton, an economist with IHS Global Insight in Beijing.
Thornton thinks 2012 growth will dip to the 7.5 percent to 8 percent range, largely because of the housing slowdown. But he said it could easily drift down to 7 percent if China chooses not to prop up the property market.
UBS economist Tao Wang predicted property investment growth would halve in 2012, less dire than Chovanec's prediction for a flat reading. That leaves GDP right around the 8 percent mark.
"We continue to hold the view that property investment will slow sharply but will not collapse in 2012," she said.
Data released on Wednesday showed Chinese house prices have fallen for three consecutive months as of December, and property developers are bracing for a brutal 2012. A Reuters poll released on January 10 found economists expected property prices to fall 10 to 20 percent this year.
Chinese officials have spent the past 18 months cracking down on property speculation to try to keep the market from overheating, and it appears to be in no hurry to change course now. A housing bubble and bust would inflict far more economic damage than a policy-induced slowdown.
In Beijing, which enjoyed one of the country's biggest price gains in 2010 but is now feeling the pinch of the government's tightening measures, property developers were still hoping that policymakers will loosen their grip.
"It totally depends on whether the government will relax policies or not," said a young sales agent surnamed Cui, when asked about the likely direction of property prices.
It would take something more severe than weak property sales to alter the policy course.
Beijing seems willing to accept that some developers will go out of business, but rising unemployment or a steep drop in growth would probably prompt Beijing to lift some of the real estate purchase restrictions put in place since 2010.
"While the central government does not generally sympathize with developers, rapidly decelerating real estate investment growth is a major concern," analysts at Macquarie wrote in a January 17 note to clients.
HOLDING THE LINE
There is little doubt that China has the policy tools available to keep growth above 8 percent, but it is not clear that policymakers are willing to live with the consequences.
Real estate investment accounted for 13 percent of China's GDP in 2011, according to government data released on Tuesday, bigger than the 10 percent estimate that some economists had assumed. That means a slowdown will weigh more heavily on growth, and the remaining 87 percent of the economy will have to pull even harder to take up the slack.
Net exports subtracted from GDP growth in 2011 and will probably do so again this year, so that leaves consumption and government spending as the two main economic drivers.
China could offer incentives to spur demand for big-ticket items such as cars or appliances, which it did with good success during the 2009 downturn.
But that strategy must be used sparingly. Incentive schemes tend to pull forward demand, essentially borrowing sales from later periods.
"You just can't force people to spend more money," Global Insight's Thornton said.
As for government spending, China went on stimulus binge to combat the global recession in 2009, but local government debt soared to $1.7 trillion and problem loans are growing. China's audit office said in December it had identified $84 billion worth of irregularities with local government debt.
"They could pump a lot of money into this economy and keep the investment boom going," Tsinghua's Chovanec said. "All of those things have a cost and the cost might be pretty steep."
(Additional reporting by Alex Frew McMillan in Hong Kong and Langi Chiang in Beijing; Reporting and writing by Emily Kaiser in Singapore; Editing by Vidya Ranganathan)