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In recent decades, construction investments have made a significant contribution to the increase in fixed asset investments in China. About a quarter of the demand in the Chinese economy now comes from the real estate sector. So it is not surprising that variations in demand for residential real estate have always had a big impact on fluctuations in the economic cycle.
The government has found it difficult to control these variations, not least because property sales provide local governments with a considerable portion of their revenue. However, it seems that the latest stabilization measures have been far more successful than previous measures, decreasing the risk of a collapse in the real estate market.
Not Much of a Surprise
In mid-2016, the Politburo listed the “control of asset price bubbles” as one of its policy objectives. The public reacted with a wave of residential property purchases in August and September, which led more than 20 Chinese cities to tighten their rules for buying and selling residential property.
A market correction loomed, but ultimately turned out to be modest. First, the regulatory tightening did not occur everywhere; smaller and less important cities were not affected. Second, the People’s Bank of China kept interest rates low. Third, household incomes have risen by an estimated 60 percent over the last five years, which, together with moderate mortgage rates, means the burden is sustainable. Most importantly, however, mortgage debt in China remains low. According to estimates, mortgage debt is only 8 percent of total housing assets and 14 percent of financial assets (June 2016). In addition, demand for residential property in China remains high. The rating agency Fitch estimates that some 800 million square meters of living space will have to be built annually through 2030 to meet demand as people move to cities. This is roughly equal to the area of Singapore.
So everything is fine, right? Not quite. There are still structural problems. The government is not allowing housing to be built where people actually want to live, causing a fundamental market distortion. Very little land is being made available, particularly in urban areas, leading to a mismatch between supply and demand and boosting prices. Another distortion is rooted in restricted opportunities for financial investments. Stringent capital controls and low deposit rates at state banks make property an attractive but highly inflationary investment opportunity.
In sum, taking account of all the factors mentioned above, 2017 is unlikely to see a substantial decline in housing prices. But dealing with structural problems is a key step toward reducing volatility, and it will be indispensable in preventing the risk of a collapse in the longer term.
Source: Credit Suisse Bulletin “The New Asia” published in March 2017