january–february 2010  71

The Chinese Economy, vol. 43, no. 1, January–February 2010, pp. 71–92.
© 2010 M.E. Sharpe, Inc. All rights reserved.
ISSN 1097–1475/ 2010 $9.50 + 0.00.
DOI 10.2753/CES1097-1475430104

Hung-Gay Fung, Jau-Lian Jeng, Qingfeng

“Wilson” Liu

Development of China’s Real Estate

Market

Abstract: Over the past two decades, real estate has evolved from government-
controlled to a commercial product, emerging and developing into an important
component of China’s financial markets. Although the overall gross domestic
product (GDP) and income levels have been growing rapidly, the even-faster rising
housing costs have exacerbated the problem of housing affordability. Real estate
development has become a key factor in China’s economic growth, as real estate
has become an essential part of the overall functioning of the economy. Recent signs
following the global financial crisis suggest that China’s real estate market has
bottomed and may be on its way to a rebound. In the long run, this market offers
lucrative investment opportunities for domestic and foreign investors.

The government owned, controlled, and managed all real estate in China under
a socialist central-planning system until 1988, when reform in this sector started
(Fung, Huang, Liu, and Shen 2006). Since then, a market-based real estate industry
has gradually developed, related legislation was enacted, and various types of real
estate services have emerged. During this period, real estate in China has changed
from a public to a commercial product. Although the state remains the owner of
land in name, the rights of land use and land improvements are now commonly
privately owned. The privatization effort has driven the growth of the real estate
industry, and has made it possible for many modern business practices to be in-
troduced into China.

Hung-Gay Fung is Dr. Y.S. Tsiang Chair Professor in the College of Business Admin-
istration and Center for International Studies, University of Missouri–St. Louis. Jau-Lian
Jeng is a professor in the School of Business and Management, Azusa Pacific University.
Qingfeng “Wilson” Liu is an associate professor in the department of finance and business
law in the College of Business at James Madison University.

71
72  The Chinese Economy

In recent years, China’s real estate market has demonstrated increasing integra-
tion with real estate markets in other parts of the world, with almost synchronous
ebbs and flows. This gave rise to imbalances between supply and demand, increas-
ing real estate price volatility. In addition, the Chinese economy has been growing
at one of the fastest rates in the world, leading to rising disposable income levels.
The increase in housing prices have actually outpaced income growth, thereby
exacerbating the affordability problem. A comparison between the inland area and
the more affluent coastal area finds that the latter’s housing affordability problem
has been more severe.
Nevertheless, since 1997, the heavy investment in the real estate sector has
provided an important impetus for overall economic growth, by stimulating the
demand for many other industries, including machinery, steel, electronics, chemi-
cal products, and architecture. This is especially important for the economy of a
country like China, where savings rates are high and consumption share in the
GDP is relatively low.
Another important development in recent years is the real estate market’s in-
creasing integration with its counterparts in other countries. For instance, the real
estate bubble between early 2003 and late 2007 and the ensuing rapid cool-off
coincided with many other markets. The global financial crisis exacerbated the
decline, giving rise to a host of problems including widespread mortgage loan de-
faults, negative net worth families, and aborted construction projects. This global
integration both poses serious challenges and brings opportunities to domestic and
foreign investors.
This article examines the development of China’s real estate market and analyzes
its impact on China’s economic development. The goal is to provide a general pic-
ture of the market and identify the linkage between development of the real estate
market and overall economic growth. In addition, the effect of the financial crisis
on China’s real estate market will be assessed.

Overview of China’s Real Estate Market

Development Phases

Like Fung et al. (2006), we divide China’s real estate development before 1998 into
four phases. In the first phase, from the founding of the People’s Republic to 1978,
China adopted a Soviet-style system of “welfare housing,” in which government
agencies and all enterprises, either state-owned or collectively owned, provided
low-rent housing to all employees. All real estate belonged to the state, with no
private ownership.
The second phase, from 1978 to early 1987, was marked by the experiment of
“One-Third Housing Sale Model.” Some cities were selected to use this model, in
which the government, state-owned enterprises (SOEs), and individuals each bore
one-third of the construction and maintenance costs for new units.
 january–february 2010  73

The third phase, from late 1987 to 1991, saw the formal initiation of the real
estate marketization process. Some cities and provinces began trading land-use
rights in the second half of 1987. An amendment to the constitution, allowing for
the transfer of land-use rights (although the state retained the ownership rights),
took effect in April 1988. In addition, the housing Public Accumulation Fund (PAF),
contributed to by employees and aimed to relieve the financial burdens of employers,
was launched in Shanghai and gradually spread to other parts of China.
In the fourth phase, from 1992 to 1997, the development of the real estate industry
accelerated. After the 1992 visit to South China by Deng Xiaoping, many cities
were designated as economic development zones that offered relaxed regulations
on the transfer of land-use rights. Numerous real estate service firms, such as real
estate brokerages and property management agencies, were set up. The primary real
estate legislation, the Urban Real Estate Law, was adopted in July 1994, providing
the main legal framework for real estate markets at the national level.
The fifth phase, from 1998 to the present, has witnessed the removal of the final
remnants of the old housing system and fast development of the real estate market.
A directive, issued by the State Council in July 1998, put a stop to “Welfare Hous-
ing” and employers needed to convert real housing distribution to financial housing
assistance. Thus, the financial resources urban residents can rely on to purchase
housing include personal salaries, the PAF, personal mortgage loans, and financial
housing subsidies provided by employers. This essentially created a tremendous
boom for growth in the real estate industry.

Recent Growth Trends

Table 1 presents major indicators of the real estate industry in China from 2002 to
2006. With regard to land development and purchase, the average annual growth
rate was 12.52 percent, slightly higher than the GDP growth rate of about 11
percent during the same period. During the latter part of this period, however,
the growth decreased to single-digit and even negative rates, as the government
realized too much farmland was being lost to urban development, which nega-
tively affected agricultural production, and imposed certain restrictions. This is
another example of the important role played by the authorities in China’s real
estate development.
The building areas, on the other hand, exhibit more stable growth. In fact, the
average annual growth rates for new projects, unfinished construction, finished
construction, and area sold, were 16.94 percent, 20.27 percent, 14.33 percent, and
24.49 percent respectively, outpacing land purchase and development. This is at-
tributable to two reasons: (1) land expropriation in earlier periods provided land
reserves that mitigated, to a certain extent, the impact of government-imposed
restrictions; and (2) new buildings tended to be taller, with more floors, in a bid to
save land space and reduce costs.
The supply-to-demand ratio, calculated as finished construction divided by area
Table 1
74  The Chinese Economy

Important Indicators of Real Estate Development in China, 2002–2006

  Indicators 2002 2003 2004 2005 2006

Land development and purchase 477,291 578,188 595,249 589,721 633,966

(1,000 sq m)*  
Growth rate 31.96% 21.14% 2.95% –0.93% 7.50%
  Land development 173,468 208,538 197,402 207,622 266,056
Growth rate 19.56% 20.22% –5.34% 5.18% 28.14%
  Land purchase 303,823 369,650 397,847 382,099 367,910
Growth rate 40.27% 21.67% 7.63% –3.96% –3.71%

Building area (1,000,000 sq m)

  New projects 423 543 604 668 781
Growth rate 17.56% 28.37% 11.23% 10.60% 16.92%
  Unfinished construction 928 1,169 1,405 1,644 1,941
Growth rate 20.13% 25.97% 20.19% 17.01% 18.07%
  Finished construction 325 395 425 488 530
 Growth rate 19.12% 21.48% 7.48% 14.90% 8.66%
  Area sold 250 322 382 558 606
Growth rate 20.16% 29.15% 18.56% 45.87% 8.71%
Supply-to-demand ratio 1.30 1.23 1.11 0.87 0.87

Real estate investments (RMB billion)

  Real estate investments 774 1,011 1,316 1,576 1,938
Growth rate 23.87% 30.63% 30.20% 19.77% 22.99%
  Total urban fixed assets 3,294 4,264 5,862 7,510 9,347
investments
Growth rate 18.38% 29.45% 37.47% 28.11% 24.47%

Selling price of house (RMB per sq m) 2,291 2,379 2,714 3,242 3,383
Growth rate 2.92% 3.84% 14.08% 19.45% 4.35%
Source: Luo (2007).
Notes: The exchange rate at the end of 2006 was US$1 = RMB7.8238.
january–february 2010  75
76  The Chinese Economy

sold, steadily decreased from 1.3 in 2002 to 0.87 in 2006, causing the real estate
market to heat up and real estate investments to rise. Both real estate investments and
total urban fixed-assets investments almost tripled, with average annual growth rates
of 25.49 percent and 27.58 percent respectively. The selling price per square meter
went from RMB2,291 to RMB3,383, representing a 47.66 percent hike during the
four-year period. Such growth trends in China’s real estate market coincided with
those in many other countries, including the United States, providing evidence of
growing integration and interdependence between China’s real estate market and
the rest of the world.

Housing Affordability and Regional Gaps

Housing Affordability

Although China’s overall GDP ranks among the highest in the world, the per capita
income of its population, the largest in the world, is relatively low when compared
to most other countries. This, coupled with the rapidly rising housing prices, in-
evitably gives rise to affordability problems.
Data on China’s housing affordability issues are shown in Table 2. Housing
prices and per capita income between 1997 and 2006 are listed in Panel 1. The
average residential housing price rose consistently from RMB1,790 per square
meter in 1997 to RMB3,132 in 2006, with an average annual growth rate of 6.54
percent. However, growth was not stable over the entire period, with most of the
increases achieved between 2003 and 2004 (18.71 percent) and between 2004 and
2005 (12.62 percent). Those were also the boom years of the real estate market
across the world. The average house size, on the other hand, also increased during
this period, providing evidence of improved living conditions in urban areas.
With regard to income, the average urban per capita disposable income rose from
RMB5,160 in 1997 to RMB11,759 in 2006, with an average annual growth rate of
9.61 percent, outpacing the housing price growth. However, the ratio of housing
price to household income, a measure of housing affordability, went up from 9.79
in 1997 to 11 in 2006, suggesting that residents were actually becoming less able
to afford housing ten years later. This, based on Panel 1 data, is attributable to two
factors: (1) Housing prices increased more quickly than income in recent years. For
instance, between 2003 and 2004, the income growth of 11.21 percent, although
remarkable by any measure, was dwarfed by the 18.71 percent hike in housing
prices. (2) The size of the family decreased continually from 3.19 in 1997 to 2.96
in 2006, thus cutting into growth of the total household income vis-à-vis growth
of per capital disposable income. The shrinking family size can be explained by
the high effectiveness of the compulsory one-child family planning program and
the changing preferences of modern young couples.1
While Panel 1 provides a picture of how China’s housing affordability evolved
over the years, Panel 2 compares the United States and China at the end of 2006.
 january–february 2010  77

The median home price of US$245,400 in the United States was almost exactly five
times China’s median home price of US$48,919. The fifteen-year fixed mortgage
rate of 6.47 percent in the United States was also substantially higher than China’s
4.59 percent.2 With the assumption of a fifteen-year mortgage loan, the annual pay-
ment in the United States was US$25,604, 5.67 times China’s annual payment of
US$4,518. However, given that the median household income in the United States
is US$49,588, 21.65 times China’s US$2,290, the housing affordability problem
appears to be more serious in China. This is also supported by the mortgage-to-
income ratio, another housing affordability measure. This ratio is 51.63 percent
in the United States and 197.28 percent in China, suggesting that China’s housing
affordability is approximately a quarter of that in the United States. In other words,
China’s housing affordability problem is four times more serious than that in the
United States, although the high savings rate in China should provide a certain
degree of mitigating effect.

Regional Gaps

China’s economic growth has been characterized by imbalanced development

between the coastal and inland areas. Thus it is important to examine the regional
gaps of the affordability problem. Table 3 provides a comparison between Shang-
hai and Chengdu real estate markets, which represent the relatively more affluent
coastal area and inland area respectively.
Given its larger population base, Shanghai is obviously a bigger market, as re-
flected in the residential housing sold. The average housing prices and disposable
income are also much higher in Shanghai than in Chengdu, providing evidence for
the “wealth gap” between coastal and inland areas. The lower average number of
persons per household in Shanghai is also expected because more affluent societies
are usually associated with a smaller family size.
Nevertheless, the ratio of housing price to household income is higher in Shang-
hai than in Chengdu, suggesting that the more affluent coastal area actually has
more serious affordability problems.3 In Shanghai, this ratio stayed in the range
between 9.12 and 12.30, substantially higher than Chengdu’s range of 6.05 to 8.43.
Consistent with the observations from Table 2, Shanghai’s affordability problem
peaked between 2003 and 2005, and then subsided slightly between 2005 and 2006.
For Chengdu, however, the ratio kept rising, and reached its highest level in 2006.
This can be explained by the government-imposed macro-adjustment policy aimed
to curb overheating in coastal real estate markets and the migration of real estate
speculators to inland areas.

Impact of Real Estate Development on Economic Growth

Since 1998, the real estate industry has become an important driver of China’s
overall economic growth. Its development stimulated fast growth in many other
 78  The Chinese Economy

Table 2

Housing Affordability

Panel 1: Housing Prices and Income in China, 1997–2006

1997 1998 1999 2000 2001 2002 2003 2004 2005 2006

Avg residential price (RMB/

sq m) 1,790 1,854 1,857 1,948 2,017 2,092 2,197 2,608 2,937 3,132
Avg house size (sq m) 90.0* 90.0* 90.6 96.3 102.0 108.5 111.8 85.8** 118.6 122.2
Avg urban disposable
income (RMB) 5,160 5,425 5,854 6,280 6,860 7,703 8,472 9,422 10,493 11,759
Avg number of persons per
household 3.19 3.17 3.15 3.13 3.07 3.04 3.01 2.98 2.96 2.96
Ratio of housing price to
household income 9.79* 9.70* 9.12 9.54 9.77 9.69 9.63 7.97** 11.21 11.00
Panel 2: A Comparison Between United States and China (end of 2006)
 
Median household Median home Mortgage-to-income
  income price Mortgage rate Annual payment ratio

United States $49,588 $245,400 6.47% $25,604 51.63%

China $2,290 $48,919 4.59% $4,518 197.28%
Source: Panel 1: Feng (2008). For the United States data in Panel 2: the median household income figure comes from the U.S. Census Bureau;
the median home price is from www.economic.com/em-cgi/data.exe/cenc25/c25q02; the mortgage rate is a fifteen-year fixed rate, from www.
hsh.com/natm02006.html; and the annual payment and mortgage-to-income ratio figures are calculated from the data in the first three columns
with the assumption of a fifteen-year mortgage loan. For the China data: the median household income and the median home price figures are
calculated from Panel 1 data and the end of 2006 exchange rate of US$1 = RMB7.8238. The mortgage rate is from the People’s Bank of China.
Notes: The ratio of housing price to household income is calculated as follows:
(Average residential price * Average house size) / (Average urban disposable income * Average # of persons per household).
*We do not have the house size data for 1997 and 1998 so we use a guesstimate of 90.0 sq m.
**The anomalies in 2004 were caused by changes in statistical parameters.
january–february 2010  79
Table 3
80  The Chinese Economy

A Comparison Between Real Estate Markets in Shanghai and Chengdu

1997 1998 1999 2000 2001 2002 2003 2004 2005 2006

Panel 1: Shanghai

Residential hous-
ing sold (10,000
sq m) 617 1,057 1,243 1,446 1,681 1,846 2,224 3,234 2,846 2,615
Avg residential
price (RMB/sq m) 2,891 3,026 3,102 3,327 3,659 4,007 4,989 6,385 6,698 7,039
Avg urban
disposable income
(RMB) 8,439 8,773 10,932 11,718 12,883 13,250 14,867 16,683 18,645 20,668
Avg no. of
persons/
household 2.8 2.8 2.8 2.8 2.8 2.8 2.8 2.8 2.7 2.7
Ratio of housing
price-to-household
income 11.01 11.09 9.12 9.12 9.13 9.72 10.79 12.30 11.97 11.35
Panel 2: Chengdu

Residential housing sold

(10,000 sq m) 263 311 337 400 638 744 897 1,020 1,090 1,427
Avg residential price
(RMB/sq m) 1,344 1,388 1,616 1,608 1,649 1,782 1,908 2,377 2,854 3,437
Avg urban disposable
income (RMB) 6,047 6,446 7,098 7,695 8,182 8,791 9,353 10,394 11,359 12,789
Avg no. of persons/
household 3.0 3.0 2.9 2.9 3.0 2.9 2.9 2.9 2.9 2.9
Ratio of housing price-
to-household income 6.69 6.52 7.02 6.48 6.05 6.29 6.35 7.12 7.88 8.43

Panel 3: National average

Ratio of housing price-

to- household income 9.79 9.70 9.06 8.92 8.62 8.04 7.75 8.36 8.51 8.10

Sources: Shanghai Statistical Information Net (www.stats-sh.gov.cn); Shanghai Housing and Land Resources Administration (www.shfdz.gov.
cn); Chengdu Housing and Property Administration (www.cdfgj.gov.cn); Feng (2008).
january–february 2010  81
82  The Chinese Economy

sectors and their interdependent relationships essentially formed a “cycle of growth”

that lies at the core of China’s economy.

The Real Estate Industry and the Overall Economy

China’s economy has been growing at one of the fastest rates in the last decade.
There are many reasons for this growth, and real estate development is one of them.
Unlike in many Western developed economies, where consumption accounts for 60
to 80 percent of the overall GDP, consumption only constitutes about 40 percent
of the Chinese economy.4 Thus, investments, especially those in real estate and
infrastructure, play a critical role in China’s economic development.
Table 4 presents the figures of the economy and the real estate industry between
1997 and 2005. Here are some observations.
First, according to Panel 1, China’s GDP grows at an annual rate of 10.9 percent,
while real estate capital, or the newly-created value of real estate through invest-
ment, expands at a faster rate of 13.0 percent. Real estate capital as a percentage of
GDP increased from 36.7 percent in 1997 to 42.6 percent by 2005. These percent-
ages are at about the same level as the weights of consumption in the economy,
suggesting that consumption and real estate investment are of approximately the
same importance to the overall economy. Actually, real estate investment has risen
during this period, in view of its steadily increasing weight in the GDP, in contrast
to the decreasing share of consumption.5
Second, as urban areas dominate China’s economy, urban fixed-asset investments
account for the majority of real estate capital, growing at an annual rate of 18.6
percent.6 In the mean time, over 60 percent of these investments are construction
and installation projects, expanding at an even faster annual rate of 18.8 percent.
Thus, it can be argued that construction and installation projects drive the growth
of urban fixed-asset investments. These drive the growth of the overall real estate
industry, which, in turn, drives the growth of the overall economy.
Third, the construction of new urban areas (roads, bridges, and other infrastruc-
ture) and housing represents the main component of construction and installation
projects. As shown in Panel 2, new urban areas, completed between 1997 and
2005, and comprising 12,307 square kilometers, accounted for 37.8 percent of the
total urban area as of the end of 2005. The new urban housing comprising 10.34
billion square meters, completed during the same period, constituted 62.9 percent
of total housing. Meanwhile, the cumulative newly constructed 744,700 kilometers
of highways and 33,643 kilometers of new expressways represent 38.6 percent and
91.7 percent, respectively, of the total roadways at the end of the period. These high
percentages demonstrate the exceptional efforts by the government to improve and
expand housing and infrastructure during this period.7
Fourth, government expropriations of land, actually mainly of rural land, are
the main source of supply. Cumulative land expropriations between 1997 and 2005
added up to 10,996 square kilometers, accounting for 89.4 percent of the new urban
 january–february 2010  83

area. As most of this is arable land, such fast urbanization did, to a certain degree,
negatively affect agricultural production, and create some social issues. But on
the other hand, as then-premier Zhu Rongji argued, it provided the indispensable
foundation for further economic development.
The construction of roads, highways, and expressways provides another
impetus for economic growth by serving as a platform for local governments
to utilize financial resources and stimulate local economies. China has one of
the highest savings rates in the world, usually above 40 percent. Chinese banks,
mostly owned and operated by the government, attract vast amounts of capital.8
The immature and volatile capital markets have not been able to provide outlets
for this capital.9
In light of this, the government adopted the policy of “borrow to build, and use
the toll to repay” in road construction. By 2006, 96 percent of expressways (about
39,500 km), 70 percent of Level 1 highways (about 26,900 km), and 46 percent of
Level 2 highways (about 113,000 km) had been completed using this approach.
As Table 5 demonstrates, between 2004 and 2006, the highway administrations
of several provinces provided net government investments of only RMB2.11 bil-
lion, but the total bank capital that road construction projects utilized amounts to
RMB60.3 billion, with a ratio of bank capital to net government investments of
RMB28.6. This means that RMB1 of net government spending in this area results
in RMB28.6 of bank capital being utilized, creating a sizeable ripple effect in the
economy. The banks, in fact, often compete for such lending opportunities because
of the role played by local governments and the lucrative toll funds that result
from these projects. More important, most such government investments turn out
to be profitable, with revenues of RMB16.01 billion far exceeding expenditures
of RMB12.76 billion.10

How Real Estate Drives Economic Growth

Real estate investments play an important role in China’s overall economic de-
velopment. Figure 1 presents a sketch of the entire process on how the real estate
industry drives the overall economic growth.
First, due to the legal framework, the state retains ownership of all the land,
and land expropriations are facilitated. This provides a large quantity of land for
commercial real estate development, and factory and infrastructure construction
at low costs. In China, the state owns the land, while the structures built on it can
be owned by individuals or private firms. There has been continual debate among
economists whether land ownership should be privatized. The main disadvantage
of state ownership of land is underutilization of this important factor of production
in many areas (Sakashita, Park, and Ichiki 2006).
Second, all levels of local government obtain substantial amounts of bank financ-
ing, made possible by the high savings rate in China, through land development
and infrastructure construction. These bank funds push forward the development of
Table 4

Real Estate Development and Economic Growth, 1997–2005

84  The Chinese Economy

Panel 1: Real Estate and Overall Economy

Ratio of Construction and Urban fixed assets

GDP Real estate capital real estate installation projects investments (UFAI) Ratio of C&I to
Year (RMB billion) (RMB billion) to GDP (C&I) (RMB billion) (RMB billion) UFAI

1997 8,166 2,997 36.7% 1,163 1,919 60.6%

1998 8,653 3,131 36.2% 1,374 2,249 61.1%
1999 9,096 3,295 36.2% 1,516 2,373 63.9%
2000 9,875 3,484 35.3% 1,634 2,622 62.3%
2001 10,897 3,977 36.5% 1,875 3,000 62.5%
2002 12,035 4,557 37.9% 2,197 3,549 61.9%
2003 13,640 5,596 41.0% 2,770 4,518 61.3%
2004 16,028 6,917 43.2% 3,654 5,903 61.9%
2005 18,670 7,956 42.6% 4,618 7,510 61.5%
Compound 10.9% 13.0% 18.8% 18.6%
growth rate
Panel 2: Real Estate Areas

New urban area Land impressments* New urban housing New highway New expressway
Year (sq km) (sq km) (billion sq m) (thousand km) (thousand km)

1997 577 519 0.44 40.6 1,919

1998 589 516 0.54 52.1 2,249
1999 145 340 0.26 73.2 2,373
2000 914 447 0.31 51 2,622
2001 1,588 1,812 3.35 295.3 3,000
2002 1,946 2,880 2.17 67.2 3,549
2003 2,335 1,606 0.91 44.6 4,518
2004 2,098 1,613 0.82 60.9 5,903
2005 2,115 1,264 1.54 59.8 7,510
Total 12,307 10,996 10.34 744.7 33,643

Sources: Feng (2008); National Bureau of Statistics (www.stats.gov.cn/enGliSH/).

*Urban land impressments do not become new urban areas until infrastructure is built on them.
january–february 2010  85
86  The Chinese Economy

Table 5

Consolidated Revenues and Expenditures of Highway Administrations of

Several Provinces, 2004–2006

Revenues (RMB billion) Expenditures (RMB billion)

Mainte-
nance Government Funds
Access and other allocated Administrative withdrawn by
fees surcharges funds Others expenditures government Others

4.97 6.56 4.23 0.25 10.38 2.12 0.26

Total: 16.01 Total: 12.76
Bank capital: 60.3
Net government investments (government allocated funds–withdrawn funds): 2.11
Ratio of bank capital to net government investments: 28.6
Source: Feng (2008).

transportation, commercial and residential real estate, and manufacturing facilities.

Such fixed-asset investments stimulate and expand construction and installation
projects, essentially making China a huge construction site and accelerating the
urbanization process.
Third, such a large number of construction and installation projects result in
a fast growing demand for machinery, steel, electronics, chemical products, and
other products needed in this venture. This jump-starts the expansion of the relevant
industries in China, which in turn drive investments in production facilities and
factory construction, further boosting fixed-asset investments.
Fourth, the development of industries helps cities absorb more rural population
and accelerate the urbanization process in many parts of China. This drastically
increases the proportion of urban population and further stimulates the demand
for housing and infrastructure.11
All in all, with the help of such a special land ownership, management system,
and savings rates, real estate development became one of the core drivers for overall
economic growth during the 1997–2006 period.

Challenges and Opportunities

Although China’s real estate market is still in a relatively early stage of development
in comparison to the United States and other developed markets, China’s real estate
boom between 1998 and 2007 was one of the biggest in the world. During this
period, the average annual growth rate for real estate investment was 22.1 percent,
more than double the average GDP growth rate of 9.4 percent. In particular, the
 january–february 2010  87

Figure 1. How Real Estate Development Drives Economic Growth

Dwelling demand
Commodity housing Residents Products market
consumption market (including net exports)
Selling for upgrade
or other reasons
Investment and
Investment and speculation
Selling for profit speculation
demand Products
demand Consumer
supply
Commodity housing demand
capital market
Financial capital and
derivatives markets

First-hand housing supply Consumer market

(including net exports)

Real estate Investment Financial

developers and speculation assets
demand supply Products
Public Consumer demand
consumption products
demand supply
Operating entities
Commercial use Industrial use (factory construction)
Commercial land Government
market (infrastructure construction)
Public use

Land impressments

Source: Adapted from Feng (2008).

average annual growth between 2000 and 2007 exceeded 20 percent, and surpassed
30 percent every year between 2003 and 2007 (Pan 2009). However, beginning in
the second half of 2007, China’s real estate market took a big tumble, resulting in
substantial losses for real estate investors.
The recent cyclical changes in the real estate market and the global financial
crisis exemplify the inherent risk in real estate investments. However, much like
the Chinese word “crisis,” composed of the signs for “danger” and “opportunity,”
challenges and opportunities go hand-in-hand.
28

Challenges

Impact of Global Financial Crisis

Although China’s economy has been growing at one of the fastest rates during
the past three decades, its population size, the largest in the world, causes per
capita income to remain below the average level in the world. This, along with the
88  The Chinese Economy

ever-increasing wealth gaps among residents and the real estate boom in recent
years has given rise to widespread housing affordability problems. Thus, when the
global financial crisis began to affect the economy and reduce disposable income,
the real estate market inevitably took a tumble. Pan (2009) reported a sharp drop
in the Real Estate Industry Entrepreneur Confidence Index after March 2008. The
consolidated housing sales volume in sixteen major cities decreased by 32 percent
in 2008 when compared to 2007. Housing prices in most cities dropped by 10 to
40 percent between July 2007 and July 2008.12 Such a sharp turn in the market has
resulted in problems like widespread mortgage loan defaults, negative-net-worth
families, aborted construction projects, and empty residential buildings.
At the beginning of 2009, many potential buyers still remained on the sidelines
and housing prices continued to decline.13 This could be attributable to two main
factors. First, exports, accounting for 40 percent of the overall economy, were par-
ticularly hard hit by the global financial crisis and economic downturn, resulting
in large-scale job losses and reduced disposable income. The increased uncertain-
ties over job security and future incomes have made consumers more cautious in
making spending and investing decisions. Second, there appears to be a vicious
cycle in consumer behavior—the more housing prices decline, the lower consumer
confidence gets, the less likely they will buy, and housing prices drop further. In
other words, poor economic conditions and declining confidence feed off each
other in a downward spiral. Some pessimistic researchers even predicted that the
bottom of the real estate market would not be reached until two years from now
with room for another 40 to 50 percent drop in home prices.14
Since the start of the market downturn in late 2007, quite a few foreign institu-
tional investors, including Lehman Brothers, Merrill Lynch, Morgan Stanley, and
Citigroup, have sold a considerable portion of their real estate holdings in China.
Some analysts argued that this was caused more by their own need for liquidity to
cover heavy losses elsewhere than by their outlook for China’s real estate market,
and should be viewed as a by-product of the global financial crisis (Hang, Huang,
and Lan 2008). But regardless of the motive, such large-scale sales exacerbated
the market decline and further damaged investor confidence.

Uncertainties in Government Policies

Unlike in many Western countries, China’s land ownership remains in the hands
of the government. Real estate developers and the residents who purchase the
housing units built by the developers can only acquire land-use rights, which are
subject to a seventy-year term based on a 1990 regulation released by the State
Council. What will happen when this term expires? Nobody has a definitive an-
swer yet, as the ensuing laws and policies appear to provide conflicting answers.
The Urban Real Estate Management Law passed in 1994 stipulated that owners
are required to apply for land-use rights renewal one year before expiration. The
Property Rights Law passed in 2007 relaxed the requirement by allowing the “au-
 january–february 2010  89

tomatic renewal” of land-use rights upon expiration. Then the Land Management
Law Draft was released by the Department of National Land Resources in 2008,
adding “no-cost” in front of “automatic renewal.” Before the cheers from the real
estate market participants subsided, a revised draft was published in March 2009,
changing “no-cost automatic renewal” to “automatic renewal in accordance with
the central government’s relevant stipulations,” interpreted as leaving room for
future changes by the authorities.
Such frequent changes to regulations, still in draft form, could have a serious
negative impact on consumer confidence and housing prices, further declining
during the first quarter of 2009. Potential investors who are interested in China’s
real estate market need to be mindful of this issue.

Opportunities

Due to the special features of its political decision-making system, the Chinese
government has quickly formulated and put into effect numerous policies and regu-
lations to address the sharp decline in the real estate market.15 “China is unusual
in that it has this incredible capacity to mobilize all its institutions,” said Vikram
Nehru, the World Bank’s chief economist for Asia (Batson 2009). Because the
downturn that began in the second half of 2007 caused many economic and social
problems, many policies and regulations favorable to real estate market participants
were enacted by both the central and local governments and took effect in 2008.
These included reducing mortgage interest rates, lowering payment requirements,
extending mortgage loan terms, relaxing or eliminating the caps on loans from the
housing Public Accumulation Fund, conversion of commercial mortgage loans to
government-backed ones, reducing or removing the housing deed tax, offering
direct subsidies to house buyers, relaxing regulations on second-house purchases,
and eliminating the real estate stamp tax (Fung et al. 2006).16
By the end of the first quarter of 2009, the real estate market in China had started
to show signs of recovery. Although housing prices still remain at a relatively low
level, Cheng (2009) reported that many cities saw increases in housing transactions
as compared to the same period last year, including Beijing (6.28 percent), Shanghai
(27.89 percent), Tianjin (15.77 percent), and Nanjing (9.17 percent). This recovery
can be attributable to the aforementioned stimulative policies and regulations and,
more importantly, to the recent rapid expansion of the money supply. According to
statistics released by the People’s Bank of China, as of the end of February 2009,
various loan balances at financial institutions were RMB33.06 trillion, a 24.17
percent increase over one year ago. In particular, the balances rose by RMB1.07
trillion in the month of February alone, a whopping jump of 441 percent over the
increase in the same month a year ago. In addition, a good portion of the recently
announced RMB4 trillion (US$585 billion) economic stimulus program was aimed
to boost fixed assets and housing investments and expected to further revive the
real estate market. By the end of February, real estate-related stocks traded on the
90  The Chinese Economy

Shanghai and Shenzhen Stock Exchanges recorded considerable gains, and China’s
real estate stock index gained over 40 percent.
It is uncertain how long the world financial crisis will last and how much impact
it will have on China’s real estate market, but the market appears to have bottomed
out. Some economists have predicted that China will be among the first to come
out of the global downturn. Batson (2009) argued that China’s economy will turn
a corner as the RMB4 trillion stimulus program kicks in, as evidenced by rising
crude oil and iron ore imports, record monthly car sales figures, improved manager
confidence, a 34.24 percent rise in the Shanghai Composite stock index, and ris-
ing real estate sales. Anderlini (2009) also reported a rebound in real estate capital
spending and transaction volumes, and the first slight rise in month-on-month prices
in March 2009 since July 2008.
From our perspective, there might still be considerable fluctuations and risks
in the long run, however, China’s real estate market is expected to offer lucrative
returns and rewarding opportunities for domestic and foreign investors.

Conclusions

Over the past two decades, China’s real estate has evolved from government-
controlled to a commercial product. The real estate market has emerged and
developed into an important component of China’s financial markets. This market
has quickly been integrated into the world market, as demonstrated by its cycle,
which has generally coincided with those in other countries. The higher volatility
in housing prices, a byproduct of such integration, could become an important issue
that investors and authorities need to examine closely in the future.
Although the overall GDP and income levels have been growing rapidly, the
even-faster rising housing costs have exacerbated the housing affordability problem,
appearing to be more serious in the more affluent coastal areas. Real estate devel-
opment has become a key factor in China’s economic growth and an essential part
of the overall functioning of the economy. On the other hand, if China’s economy
can maintain healthy growth in the current world economic environment, it will be
able to further stimulate the demand for bigger and better housing.
The decline in China’s real estate market since the second half of 2007 and the
ongoing world financial crisis have posed serious challenges to market participants.
But there have been signs recently that suggest the market has bottomed and may
be on its way to a rebound. In the long run, we believe this market offers lucrative
investment opportunities for domestic and foreign investors.

Notes
1. As in many Western countries, DINK (Double Income, No Kids) families have become
more and more popular in China’s urban areas (People’s Daily, October 11, 2006).
2. China’s rate is a twenty-year adjustable mortgage rate set by the People’s Bank of
China. But given the possible rate adjustments and the relatively high prepayment rate in
 january–february 2010  91

China, it is reasonable to assume that it is equivalent to the fifteen-year fixed rate in the
United States. On the other hand, Panel 2 of Table 2 was provided mainly for the purpose
of comparison between China and United States. In fact, thirty-year fixed-rate mortgage
loans are more popular than fifteen-year loans in the United States.
3. This resembles the affordability picture in the United States. For example, if we
compare California and the Midwest, it is obvious that the affordability problem is more
conspicuous in more affluent California.
4. Consumption’s share in the economy has been fluctuating within relatively narrow
margins in China. In the first three quarters of 2008, this share actually decreased to about
36 percent, according to Xinhua News, January 4, 2008.
5. China’s household consumption fell from 46 percent of GDP in 2000 to only 37
percent in 2006, according to The Economist, February 22, 2007.
6. According to Lu (2002), there is a large wealth gap between China’s urban and rural
areas, which has actually been deteriorating in recent years. As such, the central govern-
ment’s first policy document issued every year has consistently been focused on problems
in rural areas.
7. The tremendous investments in housing and infrastructure resulted in substantial
budget deficits by the government, and have became the center of policy debates. Then-
premier Zhu Rongji argued that good-quality real estate was well worth the large deficits,
as it provided a solid foundation for further economic development.
8. See Fung and Liu (2005) for a detailed discussion of the banking industry in
China.
9. See Chan, Fung, and Liu (2007) for a comprehensive analysis and discussion of
China’s capital markets.
10. This suggests that the roads in China before this period had been severely inadequate,
as is common in many emerging economies.
11. According to the National Bureau of Statistics, China’s urban population was 26
percent in 1990, 36 percent in 2001, and 44 percent at the end of 2006. See Lu (2007) for
more details.
12. See Focus Housing Net, September 12, 2008.
13. See Jinan Times, April 7, 2009.
14. See Securities Times, April 9, 2009.
15. Many researchers agree that such a system has pros and cons. In general, under this
system, policies can be formulated quickly to address problems, but there can be many un-
intended outcomes due to inadequate discussion and consultation. The policy uncertainties
discussed in the previous section are one good example.
16. China’s mortgage interest rates are determined and published by the People’s Bank
of China, the central bank. To address the overheated real estate market in early 2007, the
People’s Bank of China released regulations to raise the mortgage interest rates and down
payment requirements for purchasing a second house by the same consumer.

References

Anderlini, J. 2009. “Growing Signs of Chinese Recovery.” Financial Times, April 13.
Available at www.ft.com/cms/s/0/93ebd99c-284d-11de-8dbf-00144feabdc0,dwp_
uuid=9c33700c-4c86–11da-89df-0000779e2340.html.
Batson, A. 2009. “China Turns a Corner as Spending Takes Hold.” Wall Street Journal,
April 11, A1.
Chan, K., H. Fung, and Q. Liu. 2007. China’s Capital Markets: Challenges from WTO
Membership. London: Edward Elgar.
Cheng, H. 2009. “Institutions Forecast Continued Recovery of the Real Estate Market.”
92  The Chinese Economy

Financial Net, March 23. Available at www.caijing.com.cn/2009-03-23/110126956.

html (in Chinese).
“China’s Consumption to Hit Record Low.” 2008. Xinhua News, January 4. Available at
www.chinadaily.com.cn/china/2008–01/04/content_6372001.htm.
“Chinese Consumption.” 2007. Economist, February 22. Available at www.economist.
com/finance/displaystory.cfm?story_id=8746393.
“Experts: China’s Housing Prices Still Have Room for 50% Drop with the Bottom
Reached in Two Years.” 2009. Securities Times, April 9. Available at www.soufun.
com/news/2009–04–09/2506970.htm (in Chinese).
Feng, X. 2008. China’s Road to Good Housing. Shanghai: Shanghai Far East Publishing
House.
Focus Housing Net. 2008. “Gloomy Real Estate Market in China with 40% Drop in
Housing Prices.” Focus House Net, September 12. Available at http://house.focus.cn/
news/2008–09–12/531710.html (in Chinese).
Fung, H., and Q. Liu. 2005. “China’s Financial Reform in Banking and Securities Mar-
kets.” In China and the Challenge of Economic Globalization: The Impact of WTO
Membership, ed. Hung-gay Fung, Changhong Pei, and Kevin H. Zhang, 145–63.
Armonk, NY: M.E. Sharpe.
Fung, H., A. Huang, Q. Liu, and M. Shen. 2006. “The Development of the Real Estate
Industry in China.” Chinese Economy 39, no. 1: 84–102.
Hang, X.L., Y.T. Huang, and H. Lan. 2008. “A Housing Sale Impasse for Foreign Institu-
tions.” First Financial Daily, October 23. Available at www.douban.com/group/
topic/4461518/ (in Chinese).
Lu, A. 2007. “China’s Rural Population Shrinks to 56% of Total.” Available at http://
news.xinhuanet.com/english/2007–10/22/content_6925292.htm.
Lu, D. 2002. “Rural–Urban Income Disparity: Impact of Growth, Allocative Efficiency,
and Local Growth Welfare.” China Economic Review 13, no. 4: 419–29.
Luo, Y. (ed.). 2007. The Industrial Map of China Real Estate. China Industrial Map
Editorial Committee, the China Economic Monitoring and Analysis Center of the Na-
tional Bureau of Statistics, and Shanghai Yiju Real Estate Research Institute. Beijing:
Social Sciences Academic Press.
“The New ‘DINK’ Family in China.” 2006. People’s Daily, October 11. Available at
http://english.peopledaily.com.cn/200610/11/eng20061011_310890.html.
Pan, D. 2009. “An Analysis of the Housing Price Bubble in China’s Large- and Medi-
um-Size Cities.” First Financial Daily, February 4. Available at www.cs.com.cn/
pl/03/200902/t20090204_1740097.htm (in Chinese).
Sakashita, A., H. Park, and T. Ichiki. 2006. “The Change of Agricultural Production
System and Land Problems in the Sunan Area of China: A Follow-up Research of
Kaixiangong Village.” Review of Agricultural Economics 62: 15–24.
“2009 Will See the Policies Bottoming Out in the Development History of Chi-
na’s Real Estate Market.” 2009. Jinan Times, April 7. Available at http://hb.qq.
com/a/20090407/000095.htm (in Chinese).

To order reprints, call 1-800-352-2210; outside the United States, call 717-632-3535.
Copyright of Chinese Economy is the property of M.E. Sharpe Inc. and its content may not be copied or
emailed to multiple sites or posted to a listserv without the copyright holder's express written permission.
However, users may print, download, or email articles for individual use.