photo: Xianyi Shen
While some observers claim China is heading for another property bubble, the big picture is more complex. There are signs of bubble formation in some cities and excessive inventory in others, but there is solid growth in many.
A few weeks ago, international observers declared that China’s real estate frenzy was back, as Shenzhen prices surged 50 percent. Others lamented that, while prices are soaring in some big cities, there are bubbles in other parts of the country.
At the same time, new construction, which had contracted dramatically in 2015, rose almost 14 percent early in the year. That was broadly seen as a signal of positive home-buying sentiment spreading from big cities to smaller ones.
So are China’s property values soaring or plunging? The only proper way to respond is to take a closer look at the forces driving the property market and the market itself.
From boom to contraction to recovery
Currently, Chinese property values are fueled by several proximate forces. Let’s start with regulatory shifts. At the peak of the property markets in 2013, regulators introduced a slate of measures to cool the market. By 2014, that contributed to the severe 7.8 percent contraction in property sales. Late that fall, regulators began to roll back constraints to support the sector.
After consolidation and adjustment in 2015, the sector began to recover with property sales growing 14.4 percent, while the ongoing year should see moderate growth, thanks to supportive policies, including reduced payment requirements and real estate transaction taxes.
In turn, these effects have been further amplified by macroeconomic policies and market developments – but in different ways in different areas.
In order to maintain adequate growth, macroeconomic policies have sought to support demand. Since 2014, the People’s Bank of China, the central bank, has cut benchmark lending rates six times, while lowering banks’ reserve requirements and injecting liquidity into the financial sector, hoping to maintain low borrowing costs.
Reportedly, these policies have fueled demand, but not in the expected manner. Instead of more lending in lower-tier cities, banks focused lending on first-tier cities. As a result, liquidity has not reached home-buyers in lower-tiered cities but has propped up prices in major cities.
The third force involves investors and markets. While the stock market burst in summer 2015, fixed-income securities have suffered all-time lows. With new liquidity but limited investment instruments, many investors have left markets for real estate. That, in turn, has contributed significantly to rising property prices, especially in the first-tier cities.
Dual markets – for now
Currently, China’s urban differentiation can be understood as a “dual market” – that is, relatively wealthier first-tier megacities and lower-tier cities. While the intended goal of the recent accommodative policies was to boost demand and ease property inventories in lower-tier cities, these measures contributed to soaring prices in the leading first-tier cities.
As the most advanced provinces are moving toward higher productivity and upgrading their technology base, Guangdong has moved ahead with its plans to accelerate innovation. That, in turn, contributed to Shenzhen’s 52 percent property price gains over the past year. In Shanghai, the increasing momentum in services, R&D and particularly finance enabled prices to advance 18 percent – and Beijing is not far behind with its 10 percent.
The story is very different in the lower-tier cities. In the early 2010s, developers pushed scale with massive expansion into lower-tier cities, in order to benefit from the strong market momentum. But they overshot. So now they have returned to first- and second-tier cities where average selling prices have morphed into positive month-on-month growth. Even the dual markets reflect just a transitional phase. In effect, China is moving toward higher urban differentiation.
Meanwhile, lower-tier cities are struggling with excessive inventories. While relative growth momentum remains in lower-tier cities, overcapacity and tougher economic conditions make it challenging to reduce the inventories quickly. For instance, Shenyang has recently examined the potential of a zero down-payment mortgage policy. What would make sense, however, is to try to convert some of the overcapacity into affordable housing that is much needed across the mainland.
Indeed, the aggregate sector’s recovery is elusive. Increased leverage is penalizing developers’ profitability as they continue to cope with huge property inventory. The latter are trending down, but mainly in some first-tier cities.
Urban differentiation – over time
Even the dual markets reflect just a transitional phase. In effect, China is moving toward higher urban differentiation.
China’s urban evolution is intertwined with its modern history. Starting in the 1980s, reforms and opening up were initiated by the coastal special economic zones, initially in Guangdong. Soon, reforms extended from rapidly growing cities such as Shenzhen and Guangzhou to other primary cities, from Beijing to Shanghai. Today, these first-tier megacities are relatively wealthy, have a population of 10-20 million and tend to be more international by outlook.
During the past decade or two, their economic success has been spilling over into other tiers of Chinese cities. Even before the onset of the global financial crisis, second-tier cities – such as Suzhou, Tianjin, Shenyang, Chengdu, and Chongqing – had attracted significant attention, with investments from global corporate giants.
Meanwhile, fast-growing third-tier cities, from Fuzhou and Foshan to Harbin and Kunming, are following in the footprints of first- and second-tier cities. Behind these three tiers of rapidly growing urban agglomerations, there are still others such as Wuhu, Jilin and Xining, seeking to take advantage of the urban growth trajectories.
Due to China’s massive population size and different levels of economic development and living standards, different regions require different policies. That’s a great challenge for policymakers. In the past few months, for instance, municipal leaders in the megacities have tried to contain market excesses, even as more supportive policies have driven the recovery of the property sector nationally.
Chinese property markets, global stakes
What property markets need today are dual market policies that take into account the differences and policy implications between first- and lower-tiered cities. What works in the former may be bad in the latter, and vice versa.
What these markets will need tomorrow are differentiated policies that can take advantage of the differences between China’s established megacities (over 10 million residents), new and emerging megacities (5-10 million) and midsize cities (1-5 million).
According to research, China’s 60 leading cities possess an economy of $8.6 trillion (half the size of the US), have the world’s 10 fastest-growing cities and represent 15 percent of all global growth. The success of China’s urban differentiation is vital to China’s future but the stakes are global.
The original, slightly shorter commentary was published by Global Times on March 21, 2016