China won’t let the property market collapse but the heady days are over

Given policy goals, we can expect more deleveraging to manage loan risks even as Beijing prioritises homebuyers and supports cash-strapped local governments
But there will be no return to the ‘high leverage, high growth’ model that drove the sector over the past decade

David Chao

Published: 4:15pm, 31 Oct 2022

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Investors were probably hoping that new policy support for China’s property market would be announced at the 20th party congress. Alas, the event focused on political developments and no specific measures were unveiled to address the challenges facing the real estate sector.

This has left the market waiting for updates on how to navigate China’s property sector, an important pillar of growth since the private property rights space expanded decades ago.

China is facing a challenging economic period. Policymakers are keenly aware that markets are looking for insights as to how Beijing will target the soft spots in the domestic economy.

Relief measures for the property sector particularly are still a priority. Policymakers maintain that “housing is for living in, not for speculation”, a mantra reiterated in the work report of the party congress. The market has seen bond defaults, unfinished construction and mortgage boycotts from protesting homebuyers, against the backdrop of the earlier deleveraging requirements for developers.

Given the emphasis on stability, recent months have seen a step up in efforts to ease the property sector downturn. Right before the start of the National Day holiday on October 1, constraints were relaxed to allow first-time buyers lower mortgage rates in select cities. The finance ministry also dangled personal income tax rebates for those who buy new homes within a year of selling.

This was on top of a cut in the five-year loan prime rate – the reference for mortgages – from 4.45 per cent to 4.3 per cent in August, and 200 billion yuan (US$27.6 billion) in special loans to help developers finish stalled housing projects.

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Even so, the latest property sector data has not been encouraging. Traditionally, the National Day “golden week” holiday is a strong period for activity in the real estate market, but new residential transactions for the week dropped by 26 per cent year on year in terms of floor space sold, suggesting continued weakness in demand.

Prices have held up slightly better. Average new home prices in China’s 70 major cities in September fell 1.5 per cent year on year. Prospects for the more prosperous Tier 1 cities have improved, while lower-tier cities continue to struggle with oversupply and under-occupation, resulting in steeper price declines.

The property and construction sector is one of the economy’s cornerstones, accounting for 29 per cent of the gross domestic product. Data showed that investment in property development fell by 8 per cent in the year to September, though fixed asset investments held up as manufacturing saw year-on-year growth.

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We should remember that more affordable housing and lower leveraging are policy goals for a more sustainable and healthy property sector, which aligns squarely with the national ethos of common prosperity. We should not expect a return to the “high leverage, high growth” model that drove the sector over the past decade.

Now the party congress is over, we are more likely to see better policy implementation and coordination in efforts to continue to deleverage the sector and manage loan risks without allowing a notable rebound in property-related credit demand. It is likely that policymakers will continue to prioritise the protection of homebuyers. Measures such as the 200 billion yuan in special loans to ensure the completion of pre-sold homes could be extended in scope and size.

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We can also expect more support for cash-strapped local governments. Revenues were highly reliant on land sales to property developers, a source which has dried up. While local government financing vehicles have stepped in to buy land in their place, there are limits to how far this can run.

We should maintain perspective – there is little chance of the property market’s woes devolving into systemic risks for the broader financial market. Tightened financial regulations over the years have led to very prudential mortgage standards and modest bank exposure to the housing sector. China’s savings rate, at 46 per cent of GDP, remains among the highest in the world, provide deep pockets to service high debt and absorb losses.

People cross the road in Pudong’s Lujiazui financial district in Shanghai, China, on October 10, 2022. China’s savings rate, at 46 per cent of GDP, remains among the highest in the world. Photo: Bloomberg

Meanwhile, falling property and land values do not necessarily mean that a wave of bad loans is coming. In China, mortgages are considered one of the safest bank assets. The non-performing loan ratio – basically, the rate of default – was just 0.34 per cent for the first half of this year, compared to 1.34 per cent for all other loans. The low default rate in China is due to the full-recourse structure of the mortgage – banks have charge over all of the borrower’s assets.

Still, for China to experience any kind of material economic rebound, the property market’s woes must be fixed first. Property-related loans account for around 39 per cent of all bank loans and so declining property values would create downward pressure on credit growth.

The plethora of measures introduced to stabilise the property market should start to provide a floor, but the risk of a negative feedback loop between home prices and the real economy remains. The market should gird itself with the realisation that the era of breakneck property price growth is no more than a fleeting memory.

David Chao is a global market strategist (Asia-Pacific) at Invesco