The soaring price of property across China’s cities is beginning to have an impact. Not only is the ordinary population being priced out of the market but now even state employees, a traditionally sheltered class, have begun to feel the effect of rising prices and the affect it is having on the availability of affordable housing.

China Daily reports that the average sale price of new housing in Beijing hit almost Rmb10,000 ($1290) per square metre by October, 2006. This means for a two-bedroom flat of 70 square metres, the price tag has soared to Rmb700,000.

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That housing has become unaffordable for about 70% of China’s urban population, as reported by the Beijing Normal University, should post a sign of caution to investors. Last year, Rmb1641.6bn was pumped into Chinese property development, an increase of 18.9% from the previous year.

But despite widespread concerns about the risk of an overheated market, builders and buyers show little sign of losing appetite for residential property. In February, the National Development and Reform Commission and National Bureau of Statistics reported that housing prices nationwide jumped 6.3% in 2006.

Beijing and Shanghai, which jointly accounted for 73% of all property transactions in 2006, continue to command top spots in the market. The average price of homes in Beijing increased 10.3%, but that of Shanghai declined slightly by 0.1%.

Meanwhile, new magnets of growth have emerged. In 2006, Fuzhou (of Fujian Province) clocked the sharpest spike in the average sale price of newly constructed commercial housing at 10.4%, Shenzhen (Guangdong) 9.8%, Xiamen (Fujian) 9.6%, Qinhuangdao (Hebei) 9.3%, Chengdu (Chongqing) 8.9%, and Guiyang (Guizhou) 8.4%.

With a booming manufacturing sector and close proximity to Taiwan and Hong Kong, provinces in southern China, including Fujian and Guangdong, have drawn a wealth of domestic and foreign buyers. Chongqing’s property market has also received a boost from the central government’s policy of promoting development in the mid-western regions.

Cooling down

While rising prices are good news for developers, they have touched a raw nerve in Chinese society. During his speech on the ‘Work Report’ to the National People’s Congress, the state legislature, Premier Wen Jiabao called explicitly for measures to “curb rapid growth in property investment and housing costs”.

Mr Wen also cautioned against investment in projects that are “too large”. The government, he added, “needs to adjust the supply of housing, restrict the development of high-end properties, and instead, focus on providing affordable housing”.

On March 18, it was announced that mortgage rates for personal housing loans would increase by 0.18%, reaching 4.77% for loans that stretch five years or more. An online poll by The People’s Daily, the state media, of more than 1000 respondents showed that 69% believed housing prices would decline, and another 12% would be more hesitant than before to purchase a property.

Last year, in a bid to discourage extravagant projects catered to the nouveau riche, the Ministry of Construction ruled that some 70% of floor space in residential housing should not exceed 90 square metres per apartment. In a parallel move, the Ministry of Land and Natural Resources prohibited the supply of land for constructing luxury villas, although no definition of “villas” was specified.

Taxes have also been raised for urban land use and sale of properties. Since 2005, a nationwide tax was imposed on properties sold within two years of purchase. Shanghai added a 5.5% capital tax on properties transacted more than once a year. Recent tax adjustments stand in marked contrast to fiscal incentives in 2001, when 40 fees in the property sector were eliminated to encourage investment.

Yet another major challenge has been to prevent local governments from exploiting land sales to fatten budgetary coffers. In response, the “land use fee” was doubled, taken from the proceeds of municipal and county governments, then redistributed to the government and provinces at 30% and 70% respectively. In Shanghai’s Changning District, the land use fee has gone from Rmb70 to Rmb140 per square metre.

Some property experts contend that measures such as increased land fees are a drop in the ocean compared with buoyant and lucrative property sales. RREEF, the world’s largest property fund and property investment adviser to Deutsche Bank, reported an average profit rate of 20%-30% in China’s housing projects. In Beijing average returns for residential investment stayed rosy at 15% in 2006. The same company has recently invested $100m in Zhuhai’s residential market and plans to expand its presence in south China.

Xie Fuzhan, chief of the National Bureau of Statistics, expressed publicly that prices are unlikely to decline in the short term. With rapid urbanisation and a crumbling system of state-sponsored housing, demand for residential property remains very strong. He also cited the rising cost of construction as a factor behind heftier price tags.

Boom to slump

Striking a different chord, the 2007 Report on Beijing Economic Development, issued by the Beijing Municipal Government and written by the Social Sciences Academy, predicted that housing prices should fall within two to three years, in response to a series of cooling measures. This forecast coincided with the worrying possibility of a post-Olympic slump, cited in another study by two Beijing academics.

Ha Jiming, a leading economist at the China International Capital Corporation, made a similar prediction that prices will head south – but only after 2015, when baby boomers of the 1950s and 1960s decline in proportion to the entire population.

Pundits have long admonished that the property market may be headed towards bubble status. In China, the roots of speculation go beyond individual greed. With a record-breaking current account surplus, stashes of cash are floating around in the economy. This excess liquidity promotes loose credit and over-investment in property and stocks. More worrying still is that the property market may have evolved into a major slush fund for corrupt authorities and state-linked development companies, making profiteering even harder to monitor and regulate.

Besides domestic players, foreign corporations have also pumped billions of dollars into the property sector, especially in high-end properties. Morgan Stanley recently bought a sprawling space of 24,000 square metres in the heart of downtown Shanghai.

Signs of a bubble seem to be rearing in some places. Property development accounted for the largest share of loans in China, 18.3% in 2006, but outstanding loans from the sector have accumulated to $1100bn in the same year. Simultaneously, empty apartments in upmarket apartment blocks are becoming conspicuous. By the end of 2006, the inventory of unoccupied homes reached 123.55 million square metres, an increase of 7.9% from 2005.

The irony of the situation is that the fundamental demand for housing is there – and it is, by any standard, unprecedented in scale. The depressing fact that 70% of Chinese urban residents cannot afford to buy housing translates into an untapped market of 390 million people or 98 million households, assuming an average household size of four, waiting for suitable properties to arrive on the market. That is roughly 97 times that of Singapore’s entire population and 40 times that of London.

Mr Wen’s speech makes sound investment advice. The bulk of housing demand lies in moderately priced, no-frills housing, rather than lavish villas and kitschy-theme condominiums.

Developers would also find it worthwhile in the long term to invest in building a good reputation. The feverish market in China has drawn businesses eager to make a quick profit but slow to deliver on promises. In consequence, the number of homeowners’ complaints against developers and property management companies has spiralled upwards.

According to the Chongqing Consumer Association, there were 13,684 disputes over property during the fourth quarter of 2006 in the mid-sized city alone. One-third of those disputes concerned the collection of miscellaneous fees from residents.

To end the practice of arbitrary charges, the Chongqing Municipal Government implemented a one-price-only policy, effective January 1, requiring developers to include all miscellaneous fees within the final sale price.

Other common gripes include poor construction quality, deceptive advertisement, and insufficient proof of property rights. Piqued by a spate of tenancy disputes, retired worker Sun Anmin created a website, literally named ‘Old Sun fights the fake’, to publicise the dishonest actions of property companies. He has since been honoured by the Chinese Consumers Association as the ‘consumers’ hero’.

Power to the people

On the legislative front, the National People’s Congress passed a landmark but controversial law to protect private property on March 16. The law promises, among other objectives, to empower homeowners’ associations, an increasingly vocal vanguard of consumer rights. It has also awarded homeowners, rather than developers, the right to use common areas, including parking spaces. The law, however, is reticent on the right to sell land, a hot-button issue for the Communist Party that is unlikely to be resolved in the short term.

In a nutshell: keep a level head above the frenzy and do honest business. With consistent growth and an expanding urban population, the Chinese housing market boasts the fundamentals for a lot of growth.