`Meaningful Correction' Looms for China Housing, Economists Say in Paper

China’s housing prices, which have tripled in major cities in the past 10 years, face a “meaningful correction” in the next year or two, according to a paper from the U.S. National Bureau of Economic Research.

Prices of like-for-like-quality land at auction in Beijing climbed almost 800 percent between 2003 and this year, economists Jing Wu, Joseph Gyourko and Yongheng Deng wrote in the working paper published by the Cambridge, Massachusetts- based arbiter of U.S. business cycles. Their calculations showed Beijing prices could fall as much as 40 percent if investors lost confidence in the market.

“It does seem more likely than not that there will be a meaningful correction in Chinese house prices within the next year or two,” Gyourko, a professor at the University of Pennsylvania’s Wharton School of Business, said in an e-mail interview. “It’s virtually impossible to know when. Modest declines in expected appreciation would be all that is needed to set it off.”

Property prices across 35 major Chinese cities have more than tripled in the past 10 years in real terms, with more than half of that increase since 2007, the researchers found. China’s government has raised banks’ reserve deposit requirements three times this year and introduced tougher lending conditions for second and third home purchases to control real-estate speculation. A property tax may soon be introduced, the China Daily reported on July 23.

“Introducing a property tax is potentially very important,” Gyourko said. “Its current absence makes speculating cheaper, as not having to pay an annual tax lowers the cost of carrying your investment.”

Curbs Working

Government measures to curb property speculation have had “initial” results and prices will fall further in the second half of this year, Zhou Jiang, of China’s housing ministry’s research center, wrote on July 16 in China Finance, a central bank publication. Declines in cities where prices previously rose quickly will be “relatively large,” Zhou wrote, without naming cities.

Gyourko and his fellow researchers wrote “it would only require a moderation in likely price growth to generate potentially large declines in prices, absent sharply rising rents or some other countervailing factors.” Price-to-rent ratios in major Chinese cities had risen sharply in recent years, they noted.

University of Hong Kong economist Zhigang Li said there are explanations for the price increases other than asset bubbles.

Limited Supply

“One explanation of the rapidly rising housing price and low rent in Beijing is that people are expecting a large inflow of people to Beijing -- entirely possible -- and a limited supply of land in the future,” Li said. “I don’t think the price will drop dramatically due to the bursting of a bubble.”

Gyourko and his fellow researchers looked at 309 residential land parcels that were auctioned in Beijing from 2003 to 2010 and determined prices rose by 788 percent.

Their analysis showed state-owned enterprises paid 27 percent more relative to the value of similar properties nearby, suggesting they “simply pay more” for land.

“Moral hazard arising from these entities believing they are too important to fail, combined with their access to low- cost capital from state-owned banks, also could help explain their bidding behavior,” they wrote.

“Land prices certainly would be lower in Beijing if state- owned developers did not bid differently from other buyers, but the results still indicate a very steep rise in values over the past seven years.”

To contact the reporter on this story: Nick Gentle in Hong Kong ngentle2@bloomberg.net.

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