The Secretary for Planning, Environment and Lands, Bowen Leung Po-wing, offered an interesting opinion last week on the shortage of private housing in Hong Kong. He said private developers were to blame. 'Part of the housing supply will depend on private development . . . the Government can't force them [to produce more flats],' Mr Leung said. The Government has promised to supply developers with enough land to build flats for the SAR's 70 per cent home-ownership target by 2007. But Mr Leung recognised that the Government could not force developers to buy land at its auctions, and then develop it if it was not economically feasible. As a result, land from government auction made up only a percentage of leading developers' flats output in any given year. Much more important to the big developers - particularly in terms of super-high profit margins - are projects developed on agricultural land banks in the New Territories. The largest agricultural-land housing estate - and one of the most profitable - is Cheung Kong (Holdings)' Kingswood Villas in Yuen Long. All the highly profitable developers have millions of square feet of land on their books, much acquired cheaply decades ago. At the beginning of the 1997 financial year, Cheung Kong said it had 13 million sq ft of farm land, while Sun Hung Kai Properties held about 20 million sq ft. Henderson Land Development and New World Development each said they had 15 million sq ft of farm land in reserve. Assuming a 7.5 times plot ratio, that represents 472.5 million sq ft of gross floor area. Assuming an average flat size of 480 sq ft, the agricultural land banks represent almost a million flats, close to the entire existing private-sector housing stock. Developing agricultural land banks is such a lucrative business that some analysts argue a large part of the leading developers' work is not property development at all, but the business of negotiating land conversion premiums. The Government requires that owners of land leases buy higher-value planning rights through lease conversion premiums. These land premiums are based on the difference in value between existing and proposed use. Developers such as Cheung Kong employ huge departments whose job is to liaise with government departments. They endeavour to time the company's premium payments when they perceive the market has bottomed, to help ensure maximum profits. Not only are land premiums big business for developers, they also are a huge source of government revenue, contributing $71.9 billion last year. It is the importance of agricultural land to public revenue and to housing supply that causes some analysts to wonder about the validity of a government housing policy that barely takes this into account. Property analyst Stephen Brown, former research director of Nava SC Securities, says that nowhere else in the world is there as inefficient a system of distributing the gains from what is essentially a community asset. He asks why developers are not charged a fixed percentage in profits tax after the completion and sale of a development, which would ensure profit margins were not inflated by soaring prices of flats after premiums had been negotiated. Morgan Stanley managing director Peter Churchouse said that by requiring developers to pay land premiums up front, the Government was ensuring it would get its cut of the property pie, whether or not there was a profit in the end. The huge volatility in housing prices in the past 20 years meant some lucky developers have seen profit margins of 60 to 70 per cent for some agricultural-land projects. Mr Brown also suggested taxing property on its highest possible level of usage. He argued such a move would speed development and help meet the Government's home-ownership targets, making it more expensive for developers to hoard good, usable land for decades. A side-effect of the reliance on redeveloping agricultural land for new housing is that it has created a virtual oligopoly, concentrating the vast majority of private-sector housing production in the hands of the big four developers. The barriers to entry into the business are almost insurmountable, since few companies have the holding power to afford a huge tract of farm land to sit on for decades without return. Hong Kong Institute of Real Estate Administration vice-president John Hui Wing-to said the Government should consider offering smaller plots at land auctions. 'Few small or medium-sized developers can afford the huge amounts of capital to develop the large plots up for auction or agricultural land,' he said. While it is not unknown for developers to make good margins from developing auctioned land, the risks do not seem commensurate with the return. Importantly, the buyer cannot time the land price to take advantage of troughs in the property cycle. Wheelock Properties, which paid a record price for its Galaxia site in Diamond Hill at auction in 1993, mis-timed the cycle and is resigned to slimmer profits. The director of Public Policy Studies at Lingnan College, Ho Lok-sang, said there was a role for the Government to play in the housing equation. 'They have a social responsibility for housing,' he said. To many analysts, however, the Government's role seems increasingly unclear or, as the cynics would argue, clearly self-serving.