Rescue measures won’t fix the structural problems in China’s property market

On 17 May 2024, China unveiled wide-ranging measures to stabilise its property sector, including reducing downpayment requirements, lowering mortgage rates, easing purchase requirements and asking local governments to purchase unsold properties to use as social housing.

New home prices in 70 Chinese cities decreased by an average of 3.9 per cent year-on-year and 0.7 per cent month-on-month in May 2024. The declines were widespread — new home prices dropped in 68 out of the 70 cities surveyed in May, an increase from 64 in April.

Given these downward pressures on the property sector, the rescue policies announced in May were timely and important. The real estate sector has a significant impact on China’s economy. In 2020, real estate and its related industries contributed 17 per cent to China’s GDP while investments driven by the real estate sector accounted for 51.5 per cent of total fixed asset investment. Revenue from land sales and real estate-specific taxes constituted 37.6 per cent of local government fiscal income in 2020 also.

Data captured in May 2024 does not reflect the full impact of the rescue measures, which will take time to implement. Some leading indicators on property demand have shown signs of recovery and it is expected that further evidence of the positive effects of the rescue measures may show up in June 2024 data and later.

But while housing rescue policies may help provide stimulus to property markets, the economic fundamentals currently unfolding in China are unfavourable to their implementation.

On the demand side, in the short run, household financial burden is an important factor. China’s household leverage ratio as a share of GDP has risen from 10.8 per cent in 2006 to 61.5 per cent in 2022. From 2014 to 2020, the ratio increased rapidly, coinciding with skyrocketing housing prices. China’s household leverage ratio remained stagnant from 2020 to 2022, corresponding to a decline in housing prices. This stagnation suggests that households’ mortgage capacity is approaching its limit.

China has one of the world’s highest housing price-to-income ratios at 29.59. China also has a low lending interest rate at around 4 per cent. Considering this, the room for expanding the mortgage scale is limited, constraining the ability of easing lending rules to stimulate housing demand.

Another short-term demand factor is the transfer of rural homestead land. In June 2024, Nantong, a city in Jiangsu province, introduced new policies that allow individuals who voluntarily relinquish their rural homesteads and buy homes in urban areas to receive financial subsidies. Nantong is not alone in this initiative. Encouraging the voluntary and compensated relocation from rural homesteads has become a key focus of real estate policies. But this does not seem to have affected the decreasing trend of housing prices either.

In the medium-term, rural–urban migration and the expected gains from housing purchases are key factors.

China’s urbanisation rate reached 62.8 per cent in 2022 and will rise further as the economy continues to develop, which may support housing prices in cities. Urbanising a large number of migrant workers through institutional reforms could also help boost demand for urban housing.

The housing price-to-rent ratio is high in China, indicating low expected gains without growth in housing prices. Another potential risk to expected gains is the long-awaited introduction of property tax in China sometime in the foreseeable future.

In the long run, maintaining the current housing demand level may not be possible. China’s population growth rate has dropped from 1.47 per cent in 1982 to -0.01 per cent in 2022, along with a declining fertility rate. The homeownership rate among urban Chinese households has reached 96 per cent, leaving little room for any increase.

On the supply side, China’s housing area per capita in urban areas reached 38.6 square metres in 2020, nearly doubling since 2000. The area of for-sale commercial housing has risen rapidly in recent years. This indicates that some new housing supply may become redundant when housing demand contracts.

The combination of these factors indicates that prices may still face ongoing significant downward pressure despite the rescue measures. But the downward price adjustment could reduce China’s high price-to-income ratio, which may enhance households’ mortgage capacity and provide some impetus for price recovery.

In 2020, housing accounted for 66.6 per cent of the combined value of stocks, bonds and housing. A substantial portion of Chinese residents’ wealth is tied up in real estate assets. A significant downturn in property prices will have a negative wealth effect, dampening consumption demand.

As of June 2021, real estate loans accounted for 27.4 per cent of the total loan balance in China. If downward adjustment in property prices leads to real estate loan default, this will pose major risks to financial stability. Japan’s experience with a massive real estate bubble burst in the early 1990s provides a crucial lesson for policymakers in China. The sharp downturn in the real estate sector led to a prolonged period of economic stagnation known as ‘Japan’s lost decade’.

China must implement timely and effective policies to prevent such a situation. But it is also important to consider the impact of rescue policies on government debt. Given the continuous rise in the debt burden of Chinese government since 2015, the government should consider measures like debt–equity swaps to maintain the market value of housing and ease the debt burden. The central government could also consider financing more social housing purchases to prevent local governments from taking on more debt.

Ultimately the structural problems holding back demand for properties could be solved by reforms in land allocation, financial market regulation and urbanisation policies. These reforms could help reposition China’s property sector on a healthy and sustainable growth path.

Yixiao Zhou is Associate Professor of Economics and Director of the China Economy Program in the Arndt-Corden Department of Economics at the Crawford School of Public Policy, The Australian National University.