Chinese Property Market - From Boom to Bust?

Concerns surrounding a looming crisis in China's property sector and the subsequent negative impact this could have on the rest of the economy, has been the subject of conjecture in the International press for the past few months...

Concerns surrounding a looming crisis in China's property sector and the subsequent negative impact this could have on the rest of the economy, has been the subject of conjecture in the International press for the past few months, as developers, faced by restricted funding facilities resulting from an increased government crack down on speculative property investment, began slashing their prices back in September in a bid to attract buyers in an ever slowing market.

The warning issued by the Paris-based Organisation of Economic Cooperation (OECD) late last month, which stated that a prominent domestic risk overshadowing China’s economic outlook, stemmed from the financial health of property development companies, compounded this fear; it also warned that risks arising from a property sector downturn could lead to a resurgence in bad bank loans.

Hot on the heels of this report, the latest survey by the China Real Estate Index System, reveals that residential property prices in 100 major cities in China dropped for a third consecutive month in November experiencing their largest month on month drop, with prices of an average home falling by 0.28% compared to October.

This scenario stands in stark contrast to the first five months of 2010, when investment in the property market grew 38.2% from the corresponding period in 2009.

How has this situation come about?

In response to the Global Financial Crisis in 2008, and in a bid to boost the economy and allay the effects of the impact on its export market, the Chinese government introduced a series of stimulus measures, unleashing credit on a massive scale, which saw Chinese banks flooding the market with mortgage money with preferential rates for first time buyers and easy credit being made available for second and third homes. Increased demand led to a veritable construction frenzy as investors flocked to purchase multiple new properties, often off-plan, on the premise that these would be sold on at a profit once constructed and as prices continued to soar. However, this was not to be.

Increasingly stringent cooling measures introduced by the government as early as mid 2010 and intensifying in 2011 aimed at regularising the overheated property market, included raising the down payment for first-time buyer mortgages to 30% from 20%, those for second homes from 50% to 60% while forbidding mortgages for third home purchases. Credit-quota limits and higher benchmark lending rates were applied (The People’s Bank of China raised its lending rate for the third time this year in July to 6.56%), and a tax was introduced on second home purchases by non-resident investors in some major cities.

New lending by the state-controlled banks to big developers has plunged, while, according to the website, the until now largely unregulated Trust companies, (investment vehicles unique to China who funnel funds from companies and wealthy individuals into a range of investments, including stakes in property development) that had been supplying funds to non-listed small and mid-sized developers - unable to access loans from the state-controlled banks - have been increasingly subjected to scrutiny and have been required to submit transaction details to the China Banking Regulatory Commission, prior to any deal to provide financing to a property project. It is rumoured that these developers may have been paying as much as 25% in interest to borrow from private trust companies. 

Potentially disastrous consequences?

These Government measures have had their intended effect on the speculative property investment market.  An article published in the New York Times (Nov 10) reported how in Sanya, China's southernmost city and tropical paradise, the real estate boom became so heated last year that many would-be buyers camped in tents on the pavements in order to be at the front of the queue when off-plan apartments went on sale.  In contrast, this autumn has seen a complete turn around, the tents have disappeared and interest has dropped from 100 enquiries a day to barely 3 or 4 – with no sales. Investors, who are seeing their hard-earned savings lose value at an alarming rate, have taken to the streets in protest at the discounts that are being offered to later buyers with at least seven demonstrations reported in the last three months in major cities including Beijing and Shanghai.

A later article published in the Los Angeles Times only last week (Dec 13) reports that average prices in the Shanghai area are down about 40% from their peak in mid 2009 and that plummeting sales in Beijing has meant that nearly two years' worth of inventory is clogging the market which has led to the shut down of over 1,000 real estate agencies this year. It cites the case of a software engineer who closed on a US$ 250,000 three bedroom apartment in Shanghai in August, only to see how just a couple of weeks later, the developer cut prices by 25% on identical units in a desperate attempt to boost sales.

With the property sector now accounting for about one-fifth of China’s economic output, including the broader construction industry that employs tens of millions who could find themselves out of work, the article raises the question that is on everybody’s mind - will the current policies that the Chinese government has vowed to keep in place for the foreseeable future enable it to engineer a soft-landing rather than an out-and-out crash?

- Friday 23 December 2011

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