China's push for reforms could burst property bubble, economists say

Analysts say reforms like an attack on graft and a more liberal interest rate regime are propelling a bloated sector towards a hard landing

PUBLISHED : Friday, 03 January, 2014, 10:52am
UPDATED : Saturday, 04 January, 2014, 4:15am

China’s resolve to quicken economic reforms will push its frothy housing market nearer the brink of a crash, with the bubble expected to burst this year in some cities that are already suffering oversupply, economists said.

The spreading of the anti-graft campaign, interest rate liberalisation and a likely expansion of property taxes to other cities could cumulatively be the last straw, they warned.

Debate has been going on for more than a decade over whether China’s housing market is bubbly and will soon burst. However, home prices have kept soaring, with a brief hiccup during the global financial crisis.

Many homeowners hope the government will steer the market to a soft landing eventually, without much damage to the economy and fragile banking system.

“All bubbles will eventually burst – there are no exceptions,” said Hao Hong, managing director of research at Bocom International in Hong Kong.

“With the United States now cutting its bond purchases and interest rates rising in China, if property sales slacken, the bubble will soon burst.”

Indexes measuring property transactions in China’s tier one, tier two and tier three cities all fell in the week to December 29, with a week-on-week drop of 81 per cent in sales volume in Shenzhen, a 78 per cent decline in Wuhan in Hubei province, and a 75 per cent fall in Changzhou in Jiangsu province, according to private data and research provider China Real Estate Information.

Hong did not expect the mainland housing market to crash as soon as this year – however, neither did it offer a good buying opportunity, he said.

Qi Jingmei, a senior researcher with the State Information Centre, a top government think tank in Beijing, said: “Some cities will crash – or have already crashed, such as Wenzhou [in Zhejiang] and Ordos [in Inner Mongolia] – although a nationwide bursting of the bubble is not seen yet.”

Some cities will crash – or have already crashed, such as Wenzhou and Ordos – although a nationwide bursting of the bubble is not seen yet
Qi Jingmei, State Information Centre

If China expands its anti-corruption efforts to the strict auditing of the balance books of developers and checking of local governments’ land auctions, “the property market will not be able to stand unscathed”, she said.

A recent report by the official CCTV network about trillions of yuan of unpaid land appreciation tax by developers stirred hot debate about a virtual alliance between local governments and property companies.

Chinese cities rely heavily on land sales proceeds to finance their investment in everything from roads to schools.

The intensifying anti-graft campaign, which has so far claimed more than a dozen ministerial-level officials and state company executives, has lent support to a belief among the public that China’s new leaders are serious about reforms.

“Don’t underestimate their determination,” said Hong. “However, the firmer they are, the more risk they need to undertake.”

The central bank’s efforts to speed up interest rate reforms will have an imminent impact on the housing market, as homebuyers, mostly end-users already burdened with record high prices, become more sensitive to changes in cost.

Home purchases in China for a young couple often exhaust years of savings of their parents – and even grandparents.

China scrapped its cap on lending rates last year and is gradually abolishing the floor on deposit rates, a move that is widely expected to further push up mortgage rates for homebuyers.

To attract savers, Chinese banks have for years been selling wealth management products, which now carry annual returns of 6 per cent or even higher, nearing or exceeding the benchmark mortgage rate of 6.55 per cent.

Chinese leaders will consider the profit margin of banks when liberalising interest rates, said Liu Shijin, the deputy head of the Development Research Centre, a cabinet think tank.

He is one of the main authors of the reform plan crafted at the third plenum and adopted as the basis for the targets agreed by the Central Economic Work Conference last month.

“But this is a test banks must pass,” he told the South China Morning Post, reflecting the determination of Chinese leaders to push forward the reforms.

[The expansion of] property tax will smash people’s expectations [about home price rises]
Hao Hong, Bocom International

Cheap and abundant liquidity has been a key driver of China’s home prices. Huang Yu, deputy head of the China Index Academy, the mainland’s biggest private real estate research and data provider, said a 1 per cent rise in the broad M2 money supply will drive up home prices by 0.64 per cent. Two rate cuts in mid-2012 gave the mainland’s housing market a shot in the arm and sparked the boom that continues to this day.

To curb speculation, Chinese banks are ordered to charge 10-20 per cent more than the benchmark rates to families buying their second homes. No mortgage loans are allowed for those buying third homes.

Meanwhile, many banks reduced their mortgage loans in the past few months as their annual lending quota ran out towards the end of the year, leaving homebuyers to either pay higher rates or wait in a long queue until this year, when banks are given a new quota.

Qi said China’s first-tier cities – Beijing, Shanghai, Guangzhou and Shenzhen – would impose harsher tightening measures to rein in rapid home prices this year, echoing what was urged at the annual meeting of the Ministry of Housing and Urban-Rural Development last month.

“We need to further differentiate our guidelines. Cities with heavy upward home price pressure must strictly implement various property tightening measures and increase effective land and home supply, while those with high inventories need to focus on destocking and controlling new development,” the ministry concluded.

The meeting shed no light on the much expected expansion of the property tax, which has been on trial in Shanghai and Chongqing since January 2011.

Liu said China would amend relevant laws to launch the property tax nationwide and local authorities would be given a say on the level of tax rates.

Hong projected a 30 per cent possibility that China would take the scheme to more cities this year.

“[The expansion of] property tax will smash people’s expectations [about home price rises],” Hong said.