The Housing Crisis Spreads to China

Autumn is usually the busiest time for real estate salesman Wang Yaodong. Last September and October, for instance, he sold more than a dozen luxury townhouses in western Shanghai, but this year he has sold only one. "Everybody is waiting for prices to fall," Wang says.

Wang's lament is a common refrain in China these days. During the Golden Week holiday in early October, normally peak season for home buying, sales in the southern city of Shenzhen fell by a third from the previous week and the average selling price was nearly halved. In Beijing, software developer Answer Li has been looking at houses in the $100,000 to $200,000 range, but he's holding off because he fears further declines. "I don't dare take the plunge and buy a home," Li says.

Across China, property sales fell 15% in August over the previous year. They're off more than 55% in Beijing and by 39% in Shanghai, reports the National Bureau of Statistics. Prices across the country registered a slight decline in August, the first time in years they haven't increased. In the south, where the downturn began last year, prices are off by 30% in the past 12 months. "There is a big likelihood that next year will be even lower," says Li Yong, general manager of real estate brokerage Century 21 China in Changsha, an industrial city located 700 miles west of Shanghai.

That's a dramatic shift. Since 2005, Beijing had sought to rein in housing prices with measures such as mandatory down payments of at least 30% and a steep tax on profits earned from flipping homes within five years of purchase. Those measures are starting to bite and—with economic growth slowing and the stock market down by more than 60% this year—there's less demand for housing than developers had anticipated.

EASING THE RULES

Beijing is scrambling to keep prices from falling too fast. On Oct. 22 the government exempted land sales from value-added tax; cut down payments for first-time home buyers to 20%, from 30%; and slashed a property transfer tax for new buyers to 1%, from as much as 3%. After five years of tightening credit, the central bank has cut interest rates twice in the past two months and eased reserve requirements at banks to promote more lending. And some cities have introduced subsidies for buyers of small homes and allowed mortgages of up to 30 years, compared with a previous maximum of 20 years.

A prolonged drop in property prices could create big problems for China. Real estate accounts for 25% of all investment and roughly 10% of gross domestic product in the mainland, about double the level in the U.S. Because cities in China often pay for infrastructure by selling land to developers, property-related income accounts for as much as a third of government spending, Merrill Lynch (MER) estimates. "Beijing cannot afford a collapse in the housing sector," declares Jing Ulrich, China equities chief at JPMorgan in Hong Kong.

The slowdown in sales already is taking a heavy toll on China's more than 60,000 developers. Many borrowed heavily to finance growth as real estate values skyrocketed. Now, with prices headed south, dozens have gone belly-up in recent months. Typical of the more troubled companies is Zhejiang Zhonggang in the eastern city of Jinhua. Its chairman skipped the country in October, leaving behind some $20 million in debt and dozens of angry families locked out of homes they had paid for. (The company couldn't be reached for comment.) Next year is looking very tough," says Christopher Lee, director of corporate ratings at Standard & Poor's (MHP) in Hong Kong. "We could see some high-level defaults."

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