On the Chinese House-Price Bubble

220px-Colonial_buildings_in_old_Shanghai Christian Dreger and Yanqun Zhang in Vox (photo from Wikipedia):

For many observers, the Chinese economy has been spurred by a bubble in the real-estate market, probably driven by the fiscal stimulus package and massive credit expansion (Nicolas 2009). For example, the stock of loans increased by more than 50% since the end of 2008.

In reaction to the global crisis, the government urged banks to increase lending (Cova et al. 2010). Mortgage loans have played a significant role, as they account for one third of total lending activities. Banks have provided easy credit for housing development, probably without sufficient evaluation of risks. In addition, state-owned enterprises have stimulated the development, having access to low-cost capital and believing they are too big to fail.

There are several indications that the market might have overheated in recent years. In some cities, buyers are picked up by the seller in a lottery. The rapid increase in house prices triggers exuberant expectations and speculation. Some real-estate developers have started hoarding houses by delaying their sales hoping for higher profits. Due to higher-price expectations, families are stretching to pay prices at the edge of their means or beyond.

To dampen the evolution, the People’s Bank of China has increased its nominal interest rate. The Chinese government has also introduced measures to combat record prices, including mortgage rates and down-payment requirements for second homes. In some cities, house owners are restricted in new house purchases. Many state-run mortgage lenders have cut mortgage discounts. Additional taxes on property are in the pipeline. While housing prices in the first-tier cities stopped rising further, they are still at record levels. Housing prices are not only a problem from an economic perspective, they’re also an issue of the people’s livelihood that can affect social stability. Households with average income increasingly feel that they cannot afford to buy a house (Deng et al. 2009).