Can China cool its property market?

While all eyes are on the Hellenic melodrama now, Chinese property companies have taken another beating today on the news of pending property tax. The Economic Observer reported that it will be applied in Chongqing, Beijing, and Shenzhen first, and expanded to Shanghai at a later date. The proposed new tax is effectively a transaction tax, and will likely to be progressive, with bigger homes paying higher rates.

China has already announced a series of measures aimed at tightening credit for 2nd and 3rd homes. With this new tax, it does appear that the government is serious about cooling the property market. However, will it succeed in this endeavor without hiking interest rate for the general economy? Andy Xie and Marc Faber both think the answer is no. By not targeting the underlying loose money supply, a hard landing for the Chinese property market, and the general economy, is seen as inevitable.

Both have their points, but I think we should take some other things into consideration as well. For one thing, the US “recovery” is anemic at best and there’s a not to be written off risk of 2nd dip. There’s also the unfortunate fact that Chinese GDP is 20%-40% property related, depending on to whom you listen to. Kicking it too hard will just send the entire economy into tailspin. More importantly, the recent measures do seem more effective than those China tried in 2007.

Loopholes in the previous rounds of control measures rendered them largely useless. Current efforts tend to pay more attention to the details. One possibility of getting around 1st/2nd/3rd home rule is to buy under the names of different members of the family. But unlike the last try, the current measure include all direct kins (spouse and underage children) in the calculation.

The proposed property tax is also important in taking away an incentive for the local governments to stonewall cooling measures. You see, Chinese local governments rely heavily on land transfer tax for revenue. The released figure is at 20% on average, but the real number should be much higher. Some economists estimated that as much as 50% of Beijing’s city revenue comes from land transfer tax. This gives the local government a natural bias towards more new development. Now, the new tax is a stamp duty, levied at each transaction. This tax can be overlook by homeowners, increase the cost for speculators tremendously, generate revenue for the local governments, and helps control new development at the high end, where most of the speculation is centered.

All these attentions to detail signaling that the current measures might actually have a chance at success. The new guy on the block, Li Keqiang, who is slated to succeed Wen Jiabao as premier when the later’s term ends in 2012, has taken over part of China’s economic portfolio that includes housing early this year. And unlike the current premier, who is well loved by the Chinese people but has worked in the central government most of his career, Li had plenty of local experiences, being the party boss of Henan and Liaoning, the equivalent of being governors of both Texas and Illinois. He knew how to get around central government edicts and he’s using this knowledge to other ends now.

China will see slower growth in the future

The current debate is largely on the B word, bubble that is. The common perception is either China is a gravity defying economic miracle or it’s a complete fraud that will collapse and burn to cinders in no time. Both camps are clueless.

About 40% of China economy is export dependent. To expect it to be immune to the global downturn that is going to last several years (yes, the worst ain’t over yet) is plain stupid. It will see recession, perhaps even rather severe one, but it will fair a lot better than the developed world, simply because it’s a late comer to industrialization. It hasn’t seen peak productivity yet, unlike the west or Japan.

Going forward, it will look increasingly inward for further growth. Yes yes yes, I know China has been talking about this since…1998? But this time around it’s likely to be serious, as there’s no other choice. Its customers are bankrupt and protectionism in the the developed world is inevitable. While focusing on its domestic market will ensure a more balanced and sustainable economy in the future, growth rate will be a lot slower, which is why China has been putting off this change until now, when it really has no other choice.

And my proof that China is serious this time around? The newly launched Caijing National Weekly (which btw, has official backing and targets straight at the influential Caijing, the leading financial magazine in China) ran a story on policy changes for the 12th Five Year Plan (yup, China’s still a command economy and things planned usually got carried out) that is being drafted now. A major difference from previous plans is the omission of explicit GDP target. In fact GDP growth is not even treated as priority. Rather, the focus is on balancing the economy. So policies aiming at increasing household income and expanding social safety net come naturally.

Xinhua, the state news agency, also ran stories on similar theme, including increases in minimum wage in key manufacturing provinces. The officials of Inner Mongolia, which enjoyed regional GDP growth of 18.7% annually from 2000-2009, have stated publicly that it will calm down a bit going forward to pursuit “higher quality” growth, whatever that is.

Scholars at the Chinese Academy at Social Science, which is a key government think tank, have openly called for slower growth target of around 6%. It was widely believed that China needed 8% growth at the minimum to absorb the amount of labor entering the market every year. I don’t know where this number came from and I have not seen the actual number crunching, but it was widely cited so we’ll just leave it at that for now. However, given the change in demographics (see here), there’s less pressure on creating new jobs now. So China can actually afford a slower growth to the benefit of other objectives now, liking increasing consumption power of the people and cleaning up the environment.

How long will this process take? A decade at the least will be my guess. So if you are hoping that China will pull the world economy out of this depression (and it’s worst than the last one), you will be grossly disappointed. On the other hand, if you are wishing the collapse of China to prove the superiority of democracy, you will have to wait…and wait…and wait. It will come eventually, like all other developed economies in the world, just not this time.