Yves here. Time again for a speech I wind up giving much too often on the cognitive bias, halo effect, and how discussions of China’s economy are a case study. The halo effect is the propensity to see individuals or groups as all good or all bad. So China fans, who admittedly often face China critics with a dated or skewed view, are too eager to dismiss bona fide problems China faces, such as its still-unwinding monster real estate bubble.
For instance, we were often attacked for saying that China had an overinvestment/overcapacity problem that was bad for China as well as the global economy. Such a thing could not possibly happen, or if it did, it could not be bad! Then the Chinese government admitted, as it was also going into deflation (which is particularly stressful for country like China with a very high level of private debt) that it did have crippling overcapacity in several large manufacturing sectors (which it cutely branded as “involution”) and is trying to rationalize those fields (which is not easy for reasons explained long form elsewhere).
The US is clearly on a much worse footing than China. But that does not mean that China is not facing some strong headwinds and fundamental challenges.
By Kenneth Rogoff, Thomas D. Cabot Professor of Public Policy and Professor of Economics, Harvard University and Yuanchen Yang, Economist International Monetary Fund. Originally published at VoxEU
A growing debate has emerged over whether China risks repeating elements of Japan’s post-real estate bubble stagnation of the 1990s. This column compares China’s current real estate adjustment with Japan’s experience and uncovers striking parallels in investment dynamics and consumption responses. The key lesson from both episodes is that overinvestment during a housing boom simply cannot be unwound quickly. Excess supply hangs over the economy, discouraging new investment and weighing on activity long after volumes and prices peak. China still has room to shape the outcome of its adjustment, but the window narrows as overcapacity, weak consumption, and negative sentiment reinforce one another.
China’s prolonged real estate downturn has become one of the central policy concerns in global macroeconomics. (e.g. Copestake et al. 2026). With residential investment still contracting, house prices drifting down across much of the country (Figure 1), and consumer confidence stubbornly weak, a growing debate has emerged over whether China risks repeating elements of Japan’s post-bubble stagnation in the 1990s.
Figure 1 House price decline by city in China
Cumulative monthly decline from peak (peak = 1)
Sources: National Bureau of Statistics of China and authors’ calculations
Notes: The price index is constructed using the National Bureau of Statistics’ monthly residential property resale price index for 70 large and medium-sized Chinese cities. For each city, the index is normalized to its historical peak (the series begins in 2011, with peaks occurring between 2017 and 2023 depending on the city). All other monthly observations are then expressed relative to this benchmark.
This turn of events has come as quite a surprise to many observers. True, some had questioned whether the extraordinary rate of appreciation of Chinese real estate was sustainable and would lead to major adjustment problems (see Rogoff 2015 on how the debt super-cycle would inevitably come to China and be quite severe). However, for years the conventional belief was that any real estate adjustment in China was still far off in the future (e.g. Glaeser et al. 2017) and, even if came, would be much less crippling than Western-style real estate crashes. China’s homeowners are far less leveraged than in the US and, to the extent there were any problems, China’s powerful central government would be able to adjudicate and clean up any defaults far faster and more efficiently than the Western legal systems, eliminating the long-drawn-out uncertainty that makes debt crises so debilitating.
Now, however, as China’s crisis goes into its sixth year, the view that real estate crises will generally be muted and short-lived unless amplified by a banking crisis (Bernanke 1983, Schularick et al. 2014) appears overstated, with other amplification mechanisms also being important. Rognlie et al. (2018), for example, emphasised that housing overbuilding can generate long-lived demand shortfalls even without a classic financial crisis, while Rogoff and Yang (2020) showed that overbuilding in the case of China had reached breathtaking proportions nationwide.
In our latest research (Rogoff and Yang 2026), we take up this issue by comparing China’s current real estate adjustment with Japan’s experience in the 1990s, basing our analysis on exploring relative growth across different cities (almost 300 in the case of China) or prefectures (47 in the case of Japan). In both cases, regions with large overbuilding tended to suffer a severe downturn. The comparison is imperfect – China today is poorer, less financially liberalised, and operates under a very different political system. Nevertheless, despite profound institutional differences, we uncover striking parallels in investment dynamics and consumption responses in these two countries.
Real Estate as a Growth Engine – and Its Limits
For decades, real estate played a pivotal role in China’s growth miracle. Including upstream and downstream linkages and related infrastructure, real estate-related activity accounted for close to one-third of aggregate demand at its peak (Rogoff and Yang 2021). Massive investment helped support rapid urbanisation and boost local government revenues through land sales.
Yet size itself became the problem. By the late 2010s, China’s per capita housing stock had reached levels comparable to far richer economies. In many smaller and less diversified ‘tier 3’ cities, which are oftentimes losing population, construction continued even as effective demand weakened. Returns to new investment declined steadily (Rogoff and Yang 2024a, 2024b).
Japan experienced a remarkably similar dynamic in the 1980s. Residential and commercial construction surged alongside infrastructure spending, pushing land and house prices to extraordinary levels. When the bubble burst in the early 1990s, real estate investment remained subdued for an extended period, and in fact never returned to its pre-crisis level (Figure 2).
Figure 2 Real estate investment as a percentage of GDP
Sources: National Bureau of Statistics of China, Cabinet Office of Japan, and authors’ calculations.
The key lesson from both episodes is structural. Housing is highly durable, and overinvestment during the boom simply cannot be unwound quickly. Excess supply hangs over the economy, discouraging new investment and weighing on activity long after volumes and prices peak.
Declining Returns and the Investment Overhang
Using city-level data for China and prefecture-level data for Japan, we document a common pattern: regions that built more aggressively during the boom experienced deeper and more prolonged slowdowns afterward. In both countries, the contribution of real estate investment to growth deteriorated over time and eventually turned negative.
Importantly, this decline began before headline crises. In China, returns to real estate investment were already falling well before the massive 2021 Evergrande default and the tightening associated with the ‘three red lines’ which was intended to deleverage the sector. Again, the strength of this effect shows up significantly in inter-city comparisons. This suggests the downturn was not primarily a regulatory miscue, but the result of long-standing structural imbalances.
Japan’s experience provides perspective on duration. There, the negative growth impact of real estate investment persisted for more than a decade after the bubble burst. Even as GDP eventually stabilised, the real estate sector continued to weigh on recovery through the late 1990s and early 2000s.
This implies that simply stabilising prices or restoring credit flows is unlikely to revive growth quickly. When the problem is too much rather than too little capital, stimulus risks diminishing returns.
Cumulative investment, often exceeding underlying demand, gradually builds up excess supply and places sustained downward pressure on prices, especially in cities characterised by significant investment overhang. In both countries, falling house prices have powerful wealth effects. In Japan, declining land prices devastated household balance sheets, consumption weakened sharply even in regions where credit did not collapse.
China faces an even stronger version of this mechanism. Roughly 70% of Chinese household wealth is held in housing, far higher than in advanced economies, while consumption accounts for only around 40% of GDP (Figure 3). When house prices fall, households respond by cutting spending, because they feel poorer and because housing serves as a form of precautionary saving in a system with limited social insurance.
Figure 3 Valuation of different asset classes, 2017 (trillions of dollars)
Sources: World Bank, BIS, National Bureau of Statistics of China, Bank of Japan, FRED, Zillow, and authors’ calculations
Our estimates suggest that a large nationwide house price correction could reduce aggregate consumption by 2-4 percentage points of GDP, much more than announced consumption-support policy measures are designed to offset.
Sentiment: Amplification Beyond Wealth Effects
Beyond wealth effects, we find that sentiment plays a crucial amplifying role. When households expect prices to continue falling, they delay purchases, raise precautionary savings, and exacerbate the slowdown. This mechanism, stressed in earlier work on expectations and ‘animal spirits’ (e.g. Soo 2018), was also visible in Japan, where pessimism about land prices endured long after the initial crash.
In China’s case, sentiment appears particularly important. Using news-based measures of housing market tone, we find that pessimistic sentiment substantially magnifies the impact of price declines on consumption. Once households internalise the belief that housing is no longer a safe store of value, the feedback loop becomes self-reinforcing.
Why China Is Similar, and Why It Is Different
Despite these parallels, China is not Japan. The structure of leverage differs: Japan’s crisis centred on private banks and corporations, whereas China’s vulnerabilities are more concentrated in local governments and state-linked entities. China also retains greater administrative capacity to postpone loss recognition and prevent outright financial sector collapse.
China also has other advantages that Japan lacked. Productivity growth remains stronger, and China sits near the global frontier in several fast-growing sectors, including electric vehicles, renewable energy, and more recently, artificial intelligence. These factors may help prevent a full-scale replication of Japan’s stagnation.
But the differences cut both ways. China is ageing faster than Japan did in the 1990s, and as a still-developing country, it lacks Japan’s extensive social safety net. Moreover, newer growth engines, no matter how dynamic, are still small relative to real estate and infrastructure. Rapidly shifting from one export-led boom to another is unlikely to substitute fully for a domestic demand shortfall in an economy of China’s size.
Looking Beyond Short-Term Stabilisation
The central lesson from Japan, and now China, is that avoiding a banking crisis is not enough. When a growth model built around investment, whether in real estate or infrastructure or emerging industries, runs into diminishing returns, the adjustment could be long and difficult – even absent a full-blown banking crisis – unless demand can be effectively rebalanced towards consumption.
Several key dynamics emerge from this analysis. Accelerating the unwinding of excess housing supply, even at the cost of recognising losses, may shorten the adjustment. Prolonged forbearance risks zombifying local governments and developers, much as zombie banks constrained Japan (IMF 2026). At the same time, restoring household confidence requires more than stabilizing prices. Stronger social insurance, clearer income prospects, and credible policy commitment to rebalancing could help reduce precautionary savings and revive consumption (Katz 2026).
Japan’s lost decade(s) offer a cautionary tale. China still has room to shape the outcome of its adjustment, but the window narrows as overcapacity, weak consumption, and negative sentiment reinforce one another. The real estate sector may no longer drive growth, but how China manages its retreat from this once-dominant sector will shape its macroeconomic trajectory for years to come.
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Or perhaps that will create a welfare problem like in Germany.
Germany has a warfare problem.
Welfare is a solution, poverty is the problem.
A major problem of this analysis (as with so many), is that it looks at the property bubbles in isolation. Most histories of the Japanese bubble focus on the Plaza accords and the subsequent monetary easing which sent the bubble into the stratosphere – but in reality, there was a huge build up of debt and associated malinvestment within the economy in multiple sectors long before that – the property bubble was just its most visible manifestation. The famed JR railway system was already massively in debt by the late 1970’s, and this was just one of many areas in that vast ‘not quite public, not quite private sector’ in Japan which had built up unsustainable levels of debt/overinvestment. This was very much the outcome of deliberate policy – the financial repression of ordinary consumers with easy and cheap credit being fire-hosed into infrastructure and investment over four decades. This is exactly the system adopted by China (and ROK and Taiwan, etc). It does not inevitably lead to long term stagnation – to various degrees some other countries which adopted this system have avoided it. But it is a very real risk if you don’t have an efficient system for removing the debt build-up from the system, either by a ruthless approach to failed investments or some other method (MMT of some form).
The Chinese housing bubble does have quite distinct characteristics which make it a little different from most other bubbles, including the Japanese one. It has its origins in the 1990’s, when local governments experimented with various forms of investment vehicles to address then urgent housing needs – in other words, it was driven by housing developer debt rather than housing buyer debt (easy access to financing to builders, not buyers). The result was a spectacular overbuild of often poor quality apartments, many of which will never be filled. In general, most owners are not underwater with debts as has happened elsewhere – however, for millions of families these apartments are their stores of family wealth, and many are now worthless (although the notional asset value of these homes was often the foundation of debt driven investments in businesses). Some may regain value in prime cities – but most of these are in lower level cities where there is massive overbuilding and no possibility whatever in prices recovering to what were always entirely unsustainable levels, not least due to population decline. To make matters worse, the generally poor quality of construction means they will never be resaleable (in Japan, at least most of the crappy houses built included a chunk of urban land). There is also a huge and probably impossible to account for level of informal debt (for example, unpaid suppliers), ponzi debt, and often outright fraud.
The overall problem though for China is not the housing bubble itself – even a worst case calculation of the overall debt is, at least theoretically, manageable by shifting the debt onto central government. The problem is that the housing bubble is just one of many such bubbles within the economy, from commercial property, data centres (yes, China has massively overbuilt them), car plants, waste incinerators (yes, far more built than there is waste), bridges to nowhere (literally, thousands of them), energy plants, and who knows what else. China is heavily dependent on the rest of the world absorbing its surplus. So far, this is working, but while smaller countries can often get away with this trick (see: Taiwan or Singapore), its much harder for a major power. To some degree, the massive debt load in numerous regional banks can be repackaged and rolled over and upwards – this process has been going on for years, and may yet keep working for some years yet – but eventually this process must come to an end. Maybe, as Steve Keen has argued, there could be some form of accountancy write-off of trillions in debt in the end, although… well, good luck dealing the multiple overlapping layers of formal and informal indebtedness through the entire system.
You mentioned most owners are “not underwater”, which is consistent from what I have read about China’s LTV guidelines for residential mortgages. That should avoid “jingle mail” issues.
I have also read that HELOCs exist in China, but have never seen any statistics on actual outstanding amounts, which I assume is confirmation that they are not a material issue.
Other than your comment about the inability to sell due to poor quality, I am not seeing a straight line between lower fair market values and an actual impact on Chinese families. Also, lower values of course benefit buyers.
Your last paragraph is also what I’m not understanding here. I see that real estate values going down might negatively affect the “market”, but the Chinese government could mitigate that. Cheaper housing is a good thing for those looking for a home rather than an investment. But maybe the crux of the issue is the quality of housing – exactly how bad is it? Is it any worse than the poorly constructed McMansions that popped up like mushrooms all over the US? Because once the house is built, it is a concrete material benefit, as long as the homeowner can afford to live in it.
The fall is having a devastating effect on Chinese families, it just works differently from the US where the stress comes via the mortgage (although there are certainly many people struggling with mortgages).
Due to financial repression (i.e. very few options for savings) for most ordinary Chinese their home is their store of value. It is their pension and rainy day fund and everything else. When it goes down, so does their long term savings. Many people – including those on quite modest incomes – own multiple properties, not for rental income, but simply as a store of value. To make things worse, the official policy of pretending that values are higher than they are is leading to widespread scams, such as the notorious ‘bamboo shoot’ scam. Plus, the hukou system creates its own problems and stresses – it was highly successful at preventing urban slums, but it has also created an urban underclass who have no possibility of owning property where they work and are often prevented from accessing subsidised housing too.
Building quality is a whole other issue. Chinese building regulations are in general reasonably good when it comes to liveability (the ‘high but spread out’ form of Chinese urban area comes largely from light/open space ordnances). But as the homes were built for investment, not living, construction quality varies from ‘ok’ to absolutely terrible. There is, for obvious reasons, limited hard data on this, but anyone with construction experience who has spent time poking around byways of China, especially outside the Tier 1 cities, can see this with their own eyes.
no one ever mentions the work of Richard Werner: Princes of the Yen, which he wrote in Japanese and became a best seller there. He documents how the Japanese bubble was created ON PURPOSE by BOJ responding to American pressure. He adds that the same operation was run successfully 2000-2008 in the US.
Not posting this as a China fan (or hater), just annoyed by this skewed article and will point to the extremely brief “Why China Is Similar, and Why It Is Different” paragraph within the article itself as my explanation. The differences are quite vast and merited far, far more attention if the authors were interested in presenting a balanced assessment of the impact of housing overcapacity and price deflation on the Chinese economy, compared to its historical impact on the Japanese economy.
It would have been a much more interesting and informative article if they had done so.
I agree with your statement.
The biggest difference in my opinion is the quality of government. Somehow the Communist Party of China ended up putting into office people who are far more capable and competent, while less beholden to special interests, than Japan or the United States.
Thiis matters, because it’s the govt ultimately will determine the outcome. The “markets” and the “invisible hand” won’t do jack shit. It takes real people with guts and intellect, and above all enough sense of morality to put the interest of the people above the interest of the ruling elite.
In Japan (and most especially in the US), govt officials and corporate execs who cause mass catastrophes are never held to account. No one gos to jail. These “liberal democracies” are actually very corrupt, if you think about it. Even cases of outright fraud and illegal activity are just ignored. (last I heard, none of Toshiba execs were ever jailed or even charged with anything)
Note that Xi was able to say “Houses are for living in”.
Buit in China, somehow the leadership class avoided becoming owned by the billionaire class. The richest and most powerful men in China (Jack Ma, etc) are often hauled before the govt and slapped around for getting too greedy and uppity. This is unthinkable in the United States. Here, it’s the donor class (esp the AIPAC donors) that summon govt officials and it’s the donors who slap politicians around.
All *financial* crises can be resolved by writing off debt and redistributing wealth. When a government/society refuses to force these actions in order to (try to) maintain the status quo or punish some group of people, it’s about power and a refusal to see the failure of the system rather than some inevitable outcome. I’m not sure how much better grounded the Chinese government is than western ones in the long run, but it has shown a willingness to step in and “fix” things much more than in other countries to this point.
A couple of harvard/IMF austerity lovers who have been wrong about everything since 2008 are sad about private investors going broke. Maybe real estate shouldn’t be a investment vehicle for losers who just want to make money off having money.
“But it is a very real risk if you don’t have an efficient system for removing the debt build-up from the system… by a ruthless approach to failed investments“
Perhaps someone can explain why I am mistaken. I thought the decade of stagnation in Japan was because the government was unwilling to let the investor class lose their fraudulently-constructed financial gains from the real estate bubble. Instead the Japanese ruling class chose to prop-up inflated real estate over a decade in a manner that caused the economy to stall by diverting investment away from productive activity in order to maintain those financialized gains. I thought this was done to save the Japanese banks and secure investor class profits, much like Obama did here in 2009-2013, which effectively resulted in wealth extraction from the working class. If this explanation is true, then it seems that China need not deal with a financialized real estate bubble in the same manner as Japan, and could instead bail out the working class and let the investors take a hair cut. I must say, how can too much housing be a problem? One could only wish that we in the US could have that problem. I would love to see housing deflation in the USA so our children could afford to buy a house. And if the capitalists are unwilling to build needed housing because it is not profitable, then it is time for the government to get into the housing business. And if there is a surplus of housing, then divert labor to other productive endeavors – or reduce the work week. And as far as mortgage defaults for those working class people who are underwater on their housing when deflation sets in – the government could provide them with zero interest loans, so that all payments go to principle, until the mortgage drops to say 80% of the housing value. Bail out the working class, not the investor class. And for those who thought they had more wealth due to a housing bubble – too bad. It was an illusion. It was ill gotten wealth in the first place, no different than from those who inflated the bubble. Live with it. And lastly, for those who managed to cash out before the bubble popped, tax that ill-gotten wealth back and divert it to productive investment. I don’t expect sensible solutions like this in the USA whose corrupt government is bought and sold by the wealthy and by corporations, but that doesn’t mean that China can’t chose a reasonable path and avoid the pitfalls that Japan experienced.
Thank you – excellent comment.
In my area, we have city councils wringing hands over the lack of affordable housing. When I try to explain that “the market” is not going to provide truly affordable housing, since they are seeking large profits, and that the government must build, own, and maintain its own housing, I get blank stares as if this is some physical impossibility.
Excellent comment putting social values first
Did someone remember to check his spreadsheet?