In the last quarter of 2021, China’s government introduced an extensive property tax trial for the following 5 years, which aims to bring long-term sustainable benefits to both the local governments and its people.
The pilot is just one of the recent regulatory changes under China’s socio-economic reform plan, creating huge pressures on property businesses.
A sign of policy easing in China’s property sector
In 2021, China’s government reined real estate developers with stricter financial rules for property development, resulting in a cooling property market. Investment in China’s property sector only logged a 4.4% annual growth in 2021, down from the 7% growth rate recorded in 2020. The number of new construction projects was relatively robust in the first half of 2021, but eventually decreased 11.4% (YoY) at the end of the year, after the strain of regulatory measures started affecting property developers. Because of the outsized importance of China’s real estate in the global economy, the change shook multiple domestic and international investors. Following a drop of 38% in 2021, China’s high-yield real estate dollar bonds continued to plunge by 19% in January 2022. According to Reuters, property investment is predicted to drop by 3% in the first six months of 2022, compared to a 15% increase during the same period 2021.
At the start of 2022, the sector was buoyed up with new hope thanks to the government’s recent initiatives. Several policy restraints were removed or reduced in China’s Central Bank’s quarterly report, signalling an ease on monetary policy. Yet, The Economists believe that the actual changes in the property curbs will be more evident after the first few months. The sector will likely see a partial recovery in the last half of 2022 when more supportive policies will arrive.
China’s real estate development
Real estate has been considered a pivotal driver of China’s economic growth. Real estate and related industries, such as construction and property service, account for about a quarter of China’s economy on average. As of 2019, real estate made up 23% of household consumption. It is driven by the country’s rapid economic development and urbanization. The urban population, which increased from 19.4% to 63.9% between 1980 and 2020, significantly fueled the demand for housing in the cities. Another growth driver is a cultural factor, in which homeownership is the embodiment of wealth in China. According to the 2021 Statista Global Consumer Survey, the homeownership over renting rate in China is 83%, notably higher than in the US and Japan, with 58% and 61%, respectively. Consequently, residential land sales account for 85% of the local government’s revenue, making it a significant source to finance their budgets. On top of that, real estate is one of the sectors that led the inbound investment in China, suggesting that multinational companies are buying into China’s Belt and Road Initiative projects.
As high as the potential of the real estate sector is, it’s becoming an increasing issue for the government as more households are buying real estate for speculation, rather than for living. Regulatory curbs have been introduced in the last two years to improve the sector’s overall financial health. In 2020, The People’s Bank of China issued the Three Red Lines policy, which targets debt reduction for property developers by tightening banks’ lending limits to those parties. Thus, businesses must now rely on property sales to fund their land acquisitions and construction. According to Nomura Holdings, Japan’s largest brokerage, presale home revenue accounts for more than half of real estate developers’ funding. Meanwhile, real estate firms are taking steps to lower their debt until the deadline of 2023, in order to avoid further regulatory scrutiny.
Chinese developers historically relied on the offshore bond market, which gave them access to foreign investors. However, that channel of financing began to crumble in the rear of the potential defaults that Evergrande faced, the infamous Chinese real estate developer with over 300 billion USD of liabilities. As the situation caused a negative sentiment among foreign investors, the government assured that Evergrande is an isolated phenomenon that does not represent the overall health of the property sector, noting that major real estate businesses are still operating steadily with good financial indicators.
A gradual recovery in 2022
Despite many controversies and uncertainties, there are bright spots in China’s property sector. Transactions in the property market are predicted to pick up after the first quarter of 2022, while investment in the property sector is expected to be recovered after six months. Looking into 2022, reforms in the industry will be continued with more policy adjustments, adding that the government could roll out a new housing policy to support the three-child policy. Regulators have taken steps to provide greater access to funds and stabilize property sales. Commercial banks have begun to process mortgage loans faster and relax their lending policies in the last month of 2021. On a broader scale, the government encourages mergers and acquisitions in the housing sector, in which larger and often state-owned developers will likely take over the less financially stable players. These real estate development groups are perceived to leverage their connections to access financing from local governments. In the first weeks of 2022, the sector witnessed a spurt in deals from Chinese state-owned firms, in an attempt to rescue cash-strapped private developers. Overseas investors that continue to purchase the high-yield bonds of China’s prominent real estate developers in the upcoming future are recommended to keep their eyes on these regulatory trends.