China's efforts to stabilize its property markets are now focused on the largest cities. This "top-down" approach could be more effective, because higher-tier cities have stronger underlying fundamentals.

In recent weeks, central policymakers have rolled out new measures and guided for these to be applied to all cities. Earlier supports were mostly aimed at the lower-tier municipalities, which have been harder hit in the property downturn that has persisted since 2021.

The property downturn is an obstacle to China's economic recovery. For this reason, we believe authorities will continue rolling out measures until they at least stabilize markets in the largest cities.

Lower-tier cities will likely have to wait longer for recovery. This is in contrast to the last big property stimulus, in 2015-2016, which infused cash into smaller cities via aggressive "shantytown" redevelopment programs.

Higher Stakes As Tier-One Markets Fall Hard

This summer brought a twist in China's property downturn. Sales in the richest cities fell hard, a sign that malaise could be spreading. This is due to weakening homebuyers' confidence amid a prolonged downturn, in our view. We believe this raises the stakes and, as a result, is altering the policy response.

Chart 1

Residential property sales in tier-one cities declined 31% year on year in July and 29% in August. While some of this was driven by a high base in Shanghai the previous summer, it is nonetheless a harmful trend from a macroeconomic perspective. China's property downturn hurts business and consumer confidence, is a drag on activity, and a threat to financial conditions.

For developers with higher exposure to higher-tier cities, such as China Overseas Land and Investment and China Resources Land, sales rebounded from February to May this year. However, since June, their contracted sales have plunged, on a year-on-year basis (see table 1).

Developers with significant exposure to lower-tier cities suffered even more. For example, sales have declined almost every month this year for Seazen Group and Country Garden Holdings (see table 1).

Table 1

The Shift Within This Cycle

Authorities are now seeking to broaden market-boosting measures. The first signaling came in late July, with a notice related to "supply-demand" imbalances from a central committee of the Communist Party. Key policy changes have followed since late-August.

Many of the current boosting measures are of the same variety as 2014-2016, while the scope is quite different. We believe the following loosening of restrictions have the potential to boost home-purchase appetite in higher-tier cities:

The redefinition of first- and second-home purchases.  To be eligible for classifying as a first-home purchase, the new policy focuses on whether a homebuyer has an existing home in the same city. Previously, any history of a mortgage loan was counted, even if that loan had already been paid off or was in another city. Buyers of first homes can obtain a much lower downpayment ratio and mortgage rate, compared with second-home purchases.

Lower downpayments on home purchases.  The People's Bank of China and the National Financial Regulatory Administration lowered the minimum down payment ratio for first home purchases to 20%, and to 30% for second homes.

Meanwhile, policymakers are trying to ease general financing conditions. Since 2022, they've lowered mortgage rates as well as the required reserve ratio for banks (see chart 2). Besides lowering mortgage rates for new primary home sales, major banks have also announced lower rates for outstanding mortgages. This could help reduce the financial burden of existing mortgagors and potentially help facilitate second-hand home transactions.

Chart 2

Moreover, these measures can be applied to all cities; whereas in late 2015 to 2016, key measures such as lower downpayment ratios excluded cities with purchase restrictions (i.e., Beijing, Shanghai, Shenzhen, Guangzhou, and Sanya).

This matters because though it seems China has been easing a lot since last year, in fact most of the administration measures were locally announced, in the smaller, hardest-hit cities. In contrast, the recent easing guidance specified that this includes cities with purchase restrictions (i.e., the larger ones).

While policymakers are employing similar tools to the last big stimulus in 2014-2016, the current programs vary in scope (see below graphic).

Gas In The Tank Still?

Easing in higher-tier cities could be more effective because of better underlying fundamentals. They have stronger economies, lower overbuild and population growth from inward migration.

However, four major cities--Shanghai, Beijing, Guangzhou and Shenzhen--have not eased as much as they are able to, under the new guidance (see table 2). We believe this shows that some cities are wary of risking too much exuberance, which would be out of line with guidance by central authorities.

Purchase restrictions (on eligible homebuyers and maximum home purchases) remain in tier-one cities and some tier-two cities. Some have started to loosen the restrictions (e.g., some districts in Guangzhou) or fully remove them (all districts in Nanjing).

In our view, this leaves "gas in the tank" in terms of future easing. Should the current relaxations not bolster sales, then these big cities, with their outsized property markets, have room to further ease. However, if these incremental policies are being rolled out too late, their effectiveness could be discounted given homebuyers' confidence is low.

Table 2

Shantytown Redevelopment, A 'Big Gun' That Won't Likely Be Deployed This Time

Policy easing worked in 2014-2016--perhaps too well, mainly attributable to the monetized settlement scheme on shantytown redevelopment programs. This policy had a big impact on 2016 property sales, especially in stimulating sales in lower-tier cities. National primary sales by value soared 34.8% in 2016, with a 22.5% jump by gross floor area (GFA).

Indeed, the response was so exuberant that by December 2016, policy abruptly changed again with the guidance of "homes are for living in, not for speculating." We believe that this spirit still underpins current policy.

Then:  Shantytown redevelopment policy injected new funds for property investments in lower-tier cities. It did this by vastly increasing the cash-settlement ratio to no lower than 50% of total compensation to residents being cleared out of shantytowns. The ratio was much lower in 2014 at 9% only. Those who settled could plough the money into fresh property. Official estimates say this program helped to destock 250 million square meters of inventory in 2016, accounting for about 16% of national sales of that year in terms of GFA.

Now:  China's latest urban village renewal programs are smaller in scope and mainly aim to promote urban redevelopment in higher-tier cities, with many projects located in core districts. So this won't be much help for lower-tier cities that are harder hit. Moreover, the whole process of urban village renewal is more complicated, involving more parties, with more concerns over land ownership and urban planning, and those projects are usually more profit-oriented. There is some progress led by the government on encouraging special loans extending to urban village renewal projects; the details are yet to be specified.

Vouchers versus cash settlement:  Additionally, some cities are now reportedly studying or have already started to use property vouchers for compensating resettled residents. This is designed to directly facilitate destocking of developers' inventory. However, in our view, developers might be reluctant to accept vouchers as payment since governments could delay their payments to developers (see "China's City-Led Property Voucher Plan Won't Replicate Sales Boom Of 2015," published on RatingsDirect on July 6, 2022).

Siphon And Spillover

The recent policy shift could siphon off purchasing power to higher-tier cities. Larger cities now have leeway to loosen restrictions. Families with members in several cities may opt to pool resources for a purchase in one of the larger cities.

That means the lower-tier cities, with their deeper inventory overhang, could continue to lag for the next year or two. Potential spillover benefits may ensue if the market in higher-tier cities can sustain a rebound in price and volumes. That's the consolation prize.

Writer: Cathy Holcombe

Digital design: Evy Cheung

Related Research

• China's City-Led Property Voucher Plan Won't Replicate Sales Boom Of 2015, July 6, 2022