Driving along Shanghai’s Zizhong Lu one gets a feel for the sort of political pressure that is starting to mount. On one side of the road are Richgate and Xintiandi, among Shanghai’s most expensive housing and commercial projects; on the other side, elderly locals sit out on the pavement in the summer heat, waiting for the relocation notice that can’t be far off.
This is now a familiar scene across China – not just in the first and second-tier cities, but also in the smaller and largely unknown provincial towns that have their own overheated property markets.
As a result, real estate has become a political football, kicked in different directions by competing interest groups.
The government has had to do something to cool off the market, and administrative control measures are the easiest method. Crude they may seem to outsiders, but in China it makes perfect sense.
Since May of this year: minimum down payments have increased to 30%; 70% of units in new developments must not exceed 90 square meters; a 5.5% tax has been imposed on total sale prices if resale is made within five years, as opposed to the previous two-year limit; pre-sales must begin within 10 days of a developer receiving its presale license; an individual income tax is due on profits from sales; and there are now restrictions on property investments by foreigners, overseas Chinese and citizens of Hong Kong, Macau and Taiwan.
The latest set of measures, legally restricting the people able to buy property in China, is likely to be the most effective means of slowing down the market.
Effective cooling tool
Preventing foreigners from purchasing multiple investment properties is a considerable blow, while foreign institutions now have higher regulatory hurdles to clear.
In the past few years, the likes of Macquarie, Morgan Stanley and Goldman Sachs have targeted prime investment and development projects in China.
By the end of 2005, there were around 2,100 co-operative projects between domestic property companies and foreign institutions. This carried over into 2006, with more than US$5.4 billion in foreign capital spent on real estate in the first quarter. Some say 93% of this was invested in Beijing and Shanghai.
Institutional activity will undoubtedly be slowed by the restrictions.
Companies like ING Real Estate, already behind schedule in the launch of its China Real Estate Opportunity Fund, are likely to fall further behind. The so-called opportunity funds were specifically targeted by Beijing as they are seen to represent "hot money" – investors betting on RMB appreciation in addition to property returns.
Of the 187 IMF member nations, 133 have regulations restricting non-residents or overseas institutions from buying property assets. From the Chinese government’s point of view, a regulatory system is needed to control the funds flowing into property – i.e. attempts are being made to redress the balance in favor of locals.
The anticipated fall in transactions will also go some way to helping slow an overheated economy.
As for developers, they have lost a large portion of the client base for high-end properties – foreigners comprise up to 70% of the investors in some projects – and there may be insufficient locals to buy up all the stock, albeit at reduced prices. Sales strategies are already being adjusted; the focus may still be on Hong Kong, Taiwan and Macau investors for the time being since the limits are applied less rigidly to them.
Few will shed a tear for the property agents. The number of agencies in Shanghai fell from 23,000 in 2004 to 12,000 in May 2005. Some forecast a further fall of at least 40%. Being in the business myself, this is enough to make me weep.
China is a developing country and needs foreign capital to help accelerate development. It has now effectively introduced a control mechanism to consider the quality of the investment before approval is granted. This will help slow the economy but won’t diminish the fundamental demand for quality property investments.
Little guy loses out
Sadly, for the man on the street, property prices are unlikely to become significantly cheaper. In a growing economy, residential property prices don’t readily fall as owners simply delay selling rather than cut prices.
Thinking further ahead, wholesale reform of the property industry could bring about long-term structural changes that would help avoid future problems.
Changes can be made to the way land is bought and sold, the financing options available to local developers, the conveyance system and even the way regulations are developed – all would conspire to deliver the market from the problems currently threatening to unravel it.
Some helpful signs come from the new presale regulations but major surgery may be some way off.