CDT Money: Property Showdown?

Analysts and investors spent the early part of the week digesting the announcement of a 50 basis point cut in China’s reserve requirement ratio, a move expected to release up to 350-400 billion yuan into China’s capacity-strained lending system. But state media reported mid-week that early February lending data from the big four banks had totaled only 70 billion yuan, suggesting a second consecutive month of lower-than-expected volumes even when taking into account an anticipated surge in credit extensions after the RRR cut officially began Friday. Economists told CNBC they expect further RRR reductions this year as the Chinese leadership transition magnifies the need to ensure continued economic growth.

The pocket of China’s economy that may stand to gain the most from looser monetary policy, the property sector, remained in the spotlight this week as well. A China Daily op-ed rushed to dispel assumptions that the reserve reduction signaled a diversion from the government’s pledge to continue its tight grip on China’s housing market, and cautioned against overestimating the effects of the RRR cut:

Despite being regarded as a sign of the country’s relaxation of its years-long restrictions on bank lending, the latest reserve cut is more a kind of slight monetary policy adjustments to adapt China’s economy to domestic and global changes. It will not cause fundamental changes to the backbone of the country’s tightening monetary policy.

Some market analysts believe that part of the released liquidity will likely flow to the housing market and will help ease the ongoing funding shortage that has hit many developers. This, they believe, will possibly change the trend of the country’s persistent regulation of the housing market.

The reserve reduction will not mean the government’s intention of relaxing its monetary policy on the housing market. Currently, the differentiated credit policy, whose core is putting a ban on third-home purchases by local residents and second-home purchases by non-local residents on mortgage loans, has made the biggest contribution to a lingering slump in the domestic housing market.

Still, other signs of potential easing – and tension – emerged within the property space. A state-run newspaper, the Shanghai Securities News, reported on Wednesday that the city government had revised home purchase restrictions to allow residence permit holders who have lived in the city for at least three years to buy a second home. The news touched on a critical component of Shanghai’s property laws, which allow locals to purchase a second home but have not specified if or how residence permit holders could be classified as locals, and an index of property stocks on the Shanghai Composite Index surged to its highest level since early November. But while the report claimed that the definition of “local” would be broadened to include certain residence-permit holders, a statement by the head of Shanghai’s housing authority also stressed that the city had not diverted from its course of real estate policy tightening. The public balancing act by the Shanghai authorities indicates a potential point of conflict between local and central government officials, according to one analyst. From Bloomberg:

“The reiteration shows that the local governments are in fear of going against the central government even though they have the intention of secretively loosening their policies,” said Jinsong Du, a Hong Kong-based property analyst at Credit Suisse Group AG. “The Shanghai government left the definition of ‘locals’ vague, so they could have a lot of leeway to explain when needed.”

As the central government stands by its drive to curb property speculation, Shanghai’s predicament mirrors that of other local governments across the country: How to offset both softer property prices and a slowdown in private real estate investment, while still ensuring that local coffers have enough to fund the cost of more than $300 billion in socialized housing projects that Beijing wants to see constructed this year. Such a situation explains why other cities, including Guangdong’s Zhongshan and Anhui’s Wuhu, have recently tweaked restrictions and implicitly challenged the central government to prove how far it will go to stay the course. From Reuters:

As Chinese property prices fall, tensions are rising between cash-strapped local governments that want to pump up the market and a central government determined to preserve social stability by keeping a lid on housing costs,” Rosealea Yao, an economist at Beijing consultancy GK Dragonomics, said.

An uneasy compromise could be hammered out if Beijing is prepared to turn a blind eye to some infractions that break the letter — but not the spirit — of calming measures. Such measures have taken nearly two years to gain traction, but now have delivered gently easing property prices four months in a row.

An example of one scenario for a mix of maintaining and easing cooling steps would be for local governments to keep slapping down multiple home purchases by an individual while cutting transaction taxes to revive a comatose market.

Spotlight: Hidden Debt

While looser reserve requirements may produce an uptick in lending, where will banks direct the new loans? The Wall Street Journal’s Tom Orlik highlights the “splurge” in loans to local governments in recent years and the implications of such lending for China’s banks:

Official numbers put banks’ exposure to local government borrowers at 8.5 trillion yuan ($1.35 trillion), equal to 15% of total loans at the end of 2011. The fear is that with many of those loans wasted, or invested in projects that generate returns only in the long term, banks will be saddled with vast quantities of nonperforming loans. That’s one reason China’s listed banks spent much of the last year trading close to trough valuations.

The chances of a public blow-up, though, are small. A large proportion of government loans—about 51%, according to Bernstein’s China bank analyst Mike Werner—are parked in unlisted local and state-owned policy banks. That gives regulators room to massage the problem outside the eye of the markets.

Authorities may have more room to maneuver when managing local government debt issues, but Forbes’ Gordon Chang warns that China’s “hidden liabilities” indicate a “gross misallocation of capital” since the government implemented a massive stimulus package during the 2008 global financial crisis:

Here’s some terrific news about China’s economy: at the end of last year, the debt-to-GDP ratio of the Chinese government, the key measure of its fiscal sustainability, stood at 16.3%. That’s an improvement from the already impressive 17% at year-end 2010.

All this sounds wonderful, but none of it correlates with the facts. The 16.3% calculation excludes Beijing’s “hidden liabilities.” Once you add them in, China’s debt-to-GDP ratio increases to somewhere between 90% and 160%. And if you believe Beijing has been overstating its GDP recently—it has, at least starting from the last quarter of last year—China’s ratio approximates Greece’s 164%.

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