If you have been following China for any significant amount of time you will likely have observed the drastic ebbs and flows that the country’s housing market regularly endures. One day the market is on fire, with the prices of housing in some cities soaring to almost unbelievable heights, and then prices suddenly top out or even start to drop and it seems as if the bubble has finally burst — but two or so quarters later prices start climbing and the cycle begins all over again.
In 2005, some international media sources first began predicting a bubble in China’s housing market. But by 2012 China was in the middle of a house buying craze. In 2013 the market continued to soar. 2014 was the year that The Economist declared to be the “end of the golden era” for China’s real estate boom, as some markets seemed on the verge of imploding. But by the end of 2015 housing in China had “turned a corner” and stabilized again. By the fourth quarter of 2016 the housing markets of some major cities were hotter than ever, and some analysts again began proclaiming that the much-touted housing bubble had finally arrived, “as expected.” But now it is the midpoint of 2017, and China’s housing markets are again in a period of stabilization, as the merry-go-round continues spinning.
It is a mistake to view China’s housing market as something left to the whims of a market economy. The system is rigged. Central, provincial, and municipal levels of government have their hands on a powerful deck of levers, which they can move up or down depending on the direction they want their respective housing markets to move in. They control supply and have a very strong influence on demand. When the market gets too hot they cool it off with policies to make home-buying unfavorable or even outright restricted; when the market gets too cool they lessen their restrictions and open up the floodgates of pent-up homebuyers. A graph of the year-on-year price change of China’s housing market since 2011 is a perfect sine wave — obediently rising and falling in direct accordance with government policy.
Many cities across China are now down shifting into a lower gear, as end-2016 saw overall home prices jump 11% year-on-year, with cities like Shanghai and Xiamen achieving gaudy annual price hikes of 31.2% and 43.8%, respectively. It was apparently time to cool things off again.
What are HPRs?
Think of Home Purchasing Restrictions (HPRs) as the brakes of a truck rolling downhill. They are a way to halt the runaway momentum of the housing market by manipulating the buyer side via making home purchasing more restrictive and less financially attractive. Then when the housing market equalizes or gets a little cooler than the overall economy wishes to bear, the brakes are let up on, HPRs are eased, and buying new homes become more appealing once again, as the real estate market regains momentum.
How this is done
Restricting how many houses people can buy
It may sound too simple, but when China’s housing market gets too hot in certain cities one of the tools that the government has at its disposal is to restrict how many homes buyers can obtain. Typically, there are different standards for locals (those who are registered to live in a place or have paid taxes and social security there for X amount of years) and non-locals. Suzhou, for example, recently unleashed a policy where locals who already own three homes are not permitted to buy any more, while non-locals can only own one property in the city. This move is to inhibit speculation in the market and to stem the common practice of storing (or concealing) wealth in real estate, which has contributed towards extremely high home prices in the recent past.
Another way of encouraging or discouraging activity in the housing market is by regulating how much of a down payment homebuyers must make before financing becomes available. Depending on how the local market is performing in any given city, mandatory down payments can range from 20% to 35% for first-home buyers all the way up to 60% to 80% for second-home buyers. For buyers who wish to own three or more homes, they often need to pay the full amount up front.
As China doesn’t have yearly property taxes, the government takes their cut at the time when homes are sold — and the amount that they levy can be huge. We’re talking value-added real estate tax, land value-added tax, real estate transaction tax, property tax, property transfer tax, education tax, etc . . . Like so, government agencies can raise and lower property taxes as another way to encourage or discourage prospective homebuyers, depending on the way the winds are blowing. For example, at the beginning of last year China’s Ministry of Finance cut deed and business taxes for home purchases in an attempt to stimulate a sluggish housing market; while by the end of the year, when the market was considerably hotter, cities like Suzhou were slapping on an additional 20% capital gains tax on second home purchases.
Beyond instituting policies and tax rates that impact prices in the housing market, municipalities can administer decrees which can more or less cap the cost of homes. For example, Dalian sought to remedy housing prices that were rising disproportionately above average income levels — a major problem in many Chinese cities — with controls which require the average y-o-y price growth of new residential properties to be less than the city’s resident’s average rise in per capita disposable income.
Municipal governments also control the amount of urban construction land they make available for residential development, which directly impacts the supply of new housing which goes onto the market. When there is too much unsold inventory, land sales are often restricted; when the inventory clears out, land sales become more robust. The amount of new residential development land that’s in the pipeline for each city has a substantial impact on future sales and price levels — something which municipal governments clearly understand.
Swings in real estate policy are not done in secret: developers know when the time is ripe to construct new properties and put them on the market as well as when to bunker down and weather out the economic winters. One of the biggest misunderstandings built into the Chinese ghost city narrative is the assumption that empty apartments are unsold apartments and that stalled constructions projects are failed construction projects. This isn’t always the case, as many empty homes haven’t even gone on the market yet and it is not uncommon for developers to postpone launches of new apartment complexes or even to hold up on completing construction projects until the housing market is in more of an ideal position to maximize sales and profit. By manipulating activity on the buyer side, HPRs have a big impact on the seller side as well.
Like developers, Chinese homebuyers are very aware of the cycles that their country’s housing markets go through. Rumors of new HPRs or the loosening of such ripple through the society, and homebuyers generally respond in kind. The “seasonality” of China’s housing sector creates a sense of urgency for buyers when HPRs are on a downswing, when the government wants the market to heat up, and stems the tide when the market gets too hot, where prospective homebuyers holster their savings for the rosier days they assume are once again not far ahead.
The Chinese housing market is extremely regulated and intensely monitored — a fact which, along with the lack of subprime lending and homebuyers being relatively under-leveraged — is something that’s extremely different than the situation leading up to the US housing crisis of 2008. However, just because something is being driven doesn’t meant that it can’t crash. Like almost everything about modern China, the way the country controls its housing market is ultimately an experiment — a relatively new phenomena without precedent. But for the near and mid-term, at least, China’s real estate ecosystem has found a unique way of maintaining homeostasis in the face of extreme fluctuations — the rollercoaster goes up, the rollercoaster goes down, but ultimately circles back around to where it began.
By Wade Shepard