Guo Haiping, a 33-year-old married woman with a child of two, is desperate to buy a home, but can’t find the cash. Help might be at hand, however: Haiping’s younger sister, Haizao, thinks she knows how she can scrape together the money for a down payment. But then everything starts to go wrong.


Such are the bare bones of a story that has struck a chord with the Chinese public and sparked much debate. Humble Abode, a TV drama series set in a city named Jiangzhou (a presumed pseudonym for Shanghai), has recently been aired across the country. As TV plots tend to do, one thing leads to another, with the younger sister becoming the mistress of the local mayor’s secretary, who is eventually sentenced to death for corruption. While real life is usually not as dramatic, it’s easy to see why China’s hot property market is providing high-tension fodder for a TV show. Prices in some cities have climbed so high that many first-time buyers are wondering how they will ever be able to afford their own homes.


A year ago, as the global economic slowdown began to drag down China’s growth, the government rolled out measures to stimulate the domestic property market, which accounts for around one-third of fixed-asset spending in the country. Interest rate cuts and lower deposit requirements were among the measures introduced. In response, those Chinese who could afford it have gone on a house-buying spree.


In the first 10 months of 2009, according to the State Statistics Bureau, the volume of sales for all types of property was nearly 80% higher than the same period the previous year. Floor space sold, rose 48%, with activity being the most frenetic in the country’s major cities. Prices in the country as a whole have increased more modestly, by nearly 21% in the year to October.


Sales in the year to November in six of the 11 cities monitored by the China Index Research Institute doubled over the same period last year. Transactions in Shanghai jumped 70% – the lowest rate among the cities monitored — while Hangzhou reported the highest leap, a staggering 162%.


What is behind the staggering growth? A massive burst of liquidity is responsible for the short-term trend, say observers. But at a more fundamental level, they cite a number of factors such as a monopolistic land sales regime that often distorts supply. If this and various economic imbalances are not addressed, there’s growing concern about the impact that the property frenzy could have on China’s economy and social fabric.


“I do think this is the evil face of the market economy,” says one residential property developer in Shanghai. He points to a flood of capital heading into real estate from all directions, including small and mid-sized enterprises of other industries, big state-owned enterprises that are flush with cash due to the government’s economic stimulus package and wealthy individuals. “On the other hand, China’s property investors are betting their investment return on short-term exits, rather than rentals,” he says. “I don’t anticipate the market will calm down in the near future. The collective subconscious is making this market crazy. We see it’s going crazy and feel there is something wrong. But as a property developer, we are just doing our job by building apartments.”


Locals and Luxury

There’s good reason why real estate experts are advising caution. Policy risks, in particular, are looming ominously on the horizon amid a growing likelihood that the government will step in next year to deflate what many fear is a bubble. And perhaps as a sign of more of what’s to come, it was reported in late November that Goldman Sachs was trying to sell Garden Plaza, a residential property in Shanghai that could fetch the investment bank $300 million.


Yet current levels of investor enthusiasm will take some effort to dampen. High-end housing has led the charge in valuations. Consider Tomson Yipin (TYP), the benchmark property of Shanghai’s upscale real estate. In the four years to June, its properties sold at an average of one a year. Not so since. On June 22, five were sold there in a day, and between June and mid-November, 42 units went, fetching a total of more than RMB 2 billion. In the process, TYP beat its own record price for Shanghai, clinching RMB 96 million for a 600-square-meter property.


Nowhere is the property madness more apparent than in the country’s major cities. In Beijing, according to Centaline China Property Research, high-end residential property sales — measured by floor space sold — accounted for one-forth of all transactions in September, compared with just under 10% only a few months earlier in March. Much of this is being driven by speculation that prices will continue to rise. A real estate agent in the Lujiazui area of Shanghai’s desirable Pudong district, told the national paper, 21st Century Business Herald, he reckons over 40% of people buying property there are doing so for investment-income purposes and a recent report estimated that 70% of residential property buyers in Shanghai are not based in the city.


Where is all the money coming from? Although foreigners have in the past been accused of driving up the country’s property prices, today’s surging demand — at least in the high end — is coming primarily from the Chinese, according to global real estate adviser DTZ. Of the 32 apartments valued at more than $10 million that were sold in China between January and mid-September, more than 84% were bought by Chinese locals.


Sources of Heat

Experts concur that the main short-term reason for the feverish growth in Chinese property markets is the excessive easing of credit. As China turned to its banks to fund much of its stimulus programme, nearly RMB 10 trillion of loans were extended in the year to October, representing 150% more than the previous year.


A sizable portion of new lending has found its way into real estate. Total financing for all real estate developers grew some 43% in the first 10 months of the year, to RMB 4.4 trillion. Mortgage lending jumped by a spectacular 120%, to more than RMB 616 billion, and lending to property developers rose by 50% to just over RMB 911 billion.


Yet China’s property market raises other, more fundamental concerns. One of them has to do with the land on which the property is being built. Economist Zhou Tianyong, deputy director of research at the Central Communist Party School, said in an interview published on December 3 in Economic Observer, a weekly Beijing newspaper, that soaring property prices are the result of the monopolistic way public land is auctioned.


Land in China is sold by local governments, which rely heavily on the proceeds to meet their funding needs. Land sales in the municipality of Beijing in 2009, for instance, have contributed to about one-third of its revenues. This means local governments have a vested interest in restricting the supply of land available to developers and hoping that prices stay high. The Shanghai residential developer says that developers’ payments to the government (including the cost of land, tax and various fees) add between 60% and 65% to the price of a property.


With the rekindling of property developers’ demand, land prices have been rising. According to Centaline, in the first 10 months of 2009, revenue from land sales in each of China’s 10 biggest cities exceeded that of the same period in 2008. The total was even greater than for all of 2007, a year considered the most frenetic on record for China’s property market.


By late September, Shanghai’s government earned RMB 52.6 billion through these auctions, which included residential land sales of RMB 30 billion, the highest amount nationwide. By the end of the third quarter, land sales in Beijing, meanwhile, had already surpassed those in the whole of 2008. In last October alone,337 land auctions in 60 cities took place, 29 of which coming in at more than double their initial asking prices.


Zhou Jian Cheng, a researcher specialising in real estate at E-House Research Institute, a non-governmental organization in Shanghai, explains that returns on property investment are much higher than in other industries. That makes it hard for even disciplined retail investors to exert caution and resist investing in real estate even as a bubble reaches bursting point.


This dynamic has been accentuated by the tough times China’s small and mid-size enterprises (SMEs) have been experiencing, explains Hua Wei, deputy director of the Real Estate Research Center of East China Normal University. As he notes, investments have retreated from troubled SMEs and poured into other assets, including property.


Meanwhile, beyond the hard realities of policy and economics, some argue that cultural factors need to be considered. High demand for property is a reminder that the Chinese buy houses almost as a hobby, says Tony Young, a senior analyst at Greenwood Asset Management in Shanghai. He also says Chinese consumer habits need to diversify more.


Real Estate, Real Impact

Whether the average Chinese real estate buyer proves easier to change than government policy, though, remains to be seen. But it’s clear that rising property prices are increasing China’s economic and financial risks. One of those risks is that a vicious circle is created, one of inflation fears followed by rising property prices. Zhou of E-House says excessive liquidity in the system is fostering inflation fears. Consumers tend to head to the property market to hedge inflation risk, while their herd mentality pushes up asset prices further and so the circle continues.


Ye Hang, an economics professor at Zhejiang University in Hangzhou, is among the experts who concurs that rapid growth in China’s property sector could bring inflationary challenges, but not in the short term. That said, government policy decisions made in the near term could determine whether the challenges will crop up in three to five years, he argues.


What’s more, the boom could result in greater income disparities and weakening consumer power for many, according to blogger and economics columnist Ye Tan. “If people lose the majority of their consumer power after buying an apartment, what will the consequences be?” she asks, rhetorically.


Experts say that beyond siphoning capital from the real economy, ballooning property prices can have several other negative effects on China’s economy. Skyrocketing prices in Shanghai, for instance, not only increase the cost of living in the city, but also eventually push up property prices in neighbouring areas, says Greenwood’s Young. He predicts that as migrants from other parts of China flow in to the big cities, the government will have to improve care for the low-income population, and build housing system for them.


What’s to Be Done?


Zhou at E-House agrees the property market boom is intensifying a number of issues facing local governments, especially in tier-one cities such as Beijing and Shanghai. He expects city officials will feel a need to come up with their own real estate policies in 2010 to cope with these pressures.


In the long run, Zhou says, China has a lengthy to-do list — the government, he notes, will “have to reform the market structure, launch a high-end property tax to curb speculation, reform the land system, add more supply and offer a better social housing system… And local governments have to guide the unrealistic expectations of consumers too, to channel consumer demand in a healthier direction.”  

In the meantime, anybody seeking a bearish view of the property craze could do worse than to talk to Ye of Zhejiang University. As the real economy picks up and capital retreats from real estate, valuations could begin to drop, he reasons. Most importantly, as inflation expectations climb, the government is very likely to adjust its monetary policies. “The property market will face a lot of uncertainties, and risks are growing,” says Ye. “Right now is not a good time to invest in houses.” That’s not news for the likes of Humble Abode’s Haiping.