End in sight for China’s building boom

China’s property industry faces a bleak future. It is now seen as inevitable that the government will rein in the country’s building boom with a nationwide property tax, which would divert savings away from the real estate market and bring an end to the mania.

That would hurt developers most, but also companies engaged in building materials, resources, construction machinery, high-end consumption and financials — all of which have attracted plenty of foreign capital during the past few years, as well as contributing to investment banking revenues.

“We expect a nationwide rollout of the property tax to commence sometime during 2016 to 2017, which should be a major long-term negative to the property market,” wrote strategists at Bank of America Merrill Lynch in a research note on Monday.

It is not yet known what shape such a tax would take, but Hu Cun-zhi, China’s vice-minister of land and resources, noted at a forum this week that investment demand was the principal problem and suggested that a tax on home ownership beyond two units would be an effective countermeasure.

“A property tax means the carrying cost will be quite a bit higher for investors,” says David Cui, one of the authors of the BoA Merrill report. “But it is something the government has to do for the benefit of the broader economy. You can’t create growth by building empty properties. It's among the least efficient ways for the nation to save.”

The government needs to act because China has enough savings to build many more homes — most of which are not needed. According to Hu, urbanisation has drawn 167 million people to China’s cities during the past eight years, while the government has supplied enough land to build 8.4 billion square metres of housing, or enough for 292 million people.

Homeowners looking to upgrade have absorbed some of this supply, but Hu’s numbers clearly demonstrate that construction is running far ahead of urbanisation. In effect, the excess is China’s savings converted into bricks and mortar.

A property tax will help to correct this imbalance. In the meantime, Chinese officials will also focus on deregulating the financial sector and easing capital controls to provide savers with a broader range of options — an important step in diverting savings away from property, and one that must come first.

“My sense is that these things should progress together,” says Cui. “Some areas will move ahead faster than others, and a property tax will be among those that go at a slower pace, as the resistance will be particularly strong.”

However, Cui expects that China’s leaders will want to implement the tax ahead of the 2018 government reshuffle.

The effect on the property industry will be severe, but should help to run down some of the country’s excessive savings, which Cui says are a product of high property prices. That would benefit low- and mid-end consumption, says Cui, and would reduce China’s overall exposure to volatile property prices.