Property

Taxing times

Why 2011 could be the year property prices finally fall

For the last five years, property in China has been a winning bet. Investors have been buying up apartments when they can afford to, flipping them for a higher price, and then buying again. It has led to a long-running boom, with home prices at least doubling in many cities.

That is, until now. The property buzz seems to be subsiding (as will some of the shoddily-built apartment blocks put up for a quick profit, see WiC23). The rate of year-on-year price increases for new urban residential builds has been falling since April, when it hit 15.4%. In October, Beijing rents fell for the first time in 18 months. Moody’s forecasts a “moderate downward correction” in property prices for 2011.

In case you are wondering, that’s good news. In sharp contrast to the West, Chinese officials have been looking for a cooling in sentiment. Over the previous 12 months nationwide, home prices had risen by almost 13%. And that’s on the official data: those in the know claim they were up a great deal more, by 40 or 50% in some cities.

Since the beginning of the year, the central government has pursued various ploys to deflate the bubble. Stricter capital requirements for banks have been introduced. Higher downpayments and stricter creditworthiness standards have been aimed at borrowers. Policymakers also hinted pantomine-style that they were considering heavier-duty weapons – like a property tax – to rein in runaway prices.

Back in October China Business News reported that the city of Beijing might be first into the fray, with a new tax launched early in 2011. “The details are very sketchy right now, but there is a sense of urgency from the government to ease prices, not just for economic reasons, but also for social reasons. The rich-poor disparity is troubling,” responded Wu Jianxiong, an analyst at Central China Securities.

The possibility of a property tax should be of interest to us all, as we grow accustomed to our own stockmarkets reacting immediately to the latest Chinese data . Last year, fixed-asset investment accounted for more than 90% of China’s overall economic growth, and residential and commercial property investment made up nearly a quarter of that.

The construction boom is also a major driver of the Chinese economy, contributing about 10% of the country’s GDP. It underpins much of the country’s demand for raw materials, helping to support global commodity prices.

Advocates argue that a new tax would deter speculators from hoarding empty property and help bring prices down. Moreover, it would help local governments, many of which suffer from a chronic revenue shortfall, and have grown to rely on land sales. Still, a botched implementation might shock the property market into a sudden reversal, triggering wider problems for the economy.

WiC has written extensively (WiC64 and 51) about the shadowy world of local government financing: the special investment vehicles set up to borrow from banks to fund infrastructure projects, which were lent money on the assumption that the debt was government guaranteed. The China Banking Regulatory Commission reckons local governments had borrowed Rmb7.4 trillion by the end of last year through such unregulated vehicles. Victor Shih of Northwestern University thinks it is much more: Rmb11.4 trillion.

A property price implosion would squeeze the value of the land that local governments have offered as collateral for their borrowing, plus limit their options for raising more cash in emergencies. Is it plausible that after Greece and Ireland, China’s local governments may also need a bailout (albeit the Germans won’t be on the hook for this one)?

Could this even wipe out 98% of the state banks’ equity? Mark Hart thinks so, according to the Daily Telegraph this week. The Texan has set up a new hedge fund betting that China is the next “enormous credit bubble to burst”. Others have made headlines for saying something similar, although Hart bet successfully against sub-prime and European debt, so his $1 billion gambit is gaining attention.

Home prices do look like coming down next year – possibly by as much as 30%, say the most bearish. But here’s hoping a fuller meltdown will be avoided…


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