Wednesday, November 02, 2011

China needs property tax to get out of bind

PROPERTY is fast becoming one of the biggest headaches for the Chinese Communist Party (CCP).
By Grace Ng, China Correspondent

It has become the chief cause of social unrest and a key threat to the party's rule, as land disputes and fury about housing prices spark growing protests among the poor and middle class.

It has spawned destabilising forces in China's economy, from a debt crisis in the southern city of Wenzhou to price manipulation tricks by developers.

Last Thursday, officials announced plans for a nationwide property tax to address distortions in the property market, in a bid to cool the unrest.

But unless they put in a serious effort to get the tax proposal off the ground, China can expect more violent protests like those that erupted recently in Shanghai and Lufeng.

How did it come to this - that well-shod, white-collar types are driven to smashing property showrooms in Shanghai, and angry farmers trash the Communist Party's headquarters in Lufeng? And how will a national property tax address the underlying problems?

The answers to these can be traced in part to Chinese policies aimed at combating the financial crisis in 2008. A flood of loans were given as stimulus. These fuelled rampant property speculation, which overheated the market and caused prices to soar, angering buyers.

In March, Premier Wen Jiabao moved on several fronts to tackle the problem. The government pledged to build 10 million housing units for the poor. More immediately, officials also slapped curbs on purchases of multiple houses, raised down payments and restricted credit.

But these stop-gap cooling measures have created their own set of problems.

One is the recent debt crisis in Wenzhou. Many of its businessmen had speculated in property to make quick profits. But when the housing market started to soften, several dozen fled as they could not pay back the millions they owed - some to local officials who were secretly involved in shadow lending at interest rates reportedly as high as 90 per cent.

Meanwhile, property developers across the country rushed to sell off units before the market fell further. Last week, developers in Shanghai and other major cities slashed prices of unsold units in some projects by a third or more.

Many of these companies have huge outstanding loans, and several had been ticked off by the government just a few months ago for manipulating prices to record highs. Their tactics included restricting supply or delaying their projects' release to incite a buying frenzy.

But the response to lowering prices has not been the joyous one officials might have hoped for. Instead, hundreds of home owners, furious at the drop in their property value, stormed developers' offices. Many had bought into the view that government curbs on multiple property purchases had weeded out speculators and used their savings to buy homes this year, believing the still-high prices reflected real demand. Instead, values plunged overnight by up to 40 per cent.

The ferocity of the city dwellers' response matched that of aggrieved farmers in Guangdong province's Lufeng city in September, who ransacked the local CCP headquarters in protest against seizure of their land by local officials.

Local governments sell land-use rights to developers. This accounts for a big chunk of local government revenues, especially when prices doubled last year. Developers paid top dollar for the land, expecting to be able to pass on the costs to home buyers via higher prices.

As the market started to soften, some officials were reportedly scrambling to seize and sell more land to maximise their future income, while compensating farmers as little as possible.

The state-run magazine Outlook Weekly reported this week that every day, several hundred rural land-grab disputes like the one in Lufeng are happening across China. Independent estimates put last year's total figure for riots and other demonstrations at 180,000; in the countryside, land and property disputes were responsible for 65 per cent of protests.

Against this simmering social cauldron, the government's move to introduce a national property tax comes at a critical time. It is no silver bullet to China's complex land and housing woes, but will go a long way to defuse some problems responsible for such flare-ups.

In fact, the idea of a nationwide tax, paid regularly on a property's annual assessed value, was first floated in 2003. Roll-out was slow due to resistance from local officials and difficulty in enforcing it.

Yet this tax is necessary if China is to remove the root problem of perverse incentives for officials, speculators and developers to keep the market overheated.

For one, it will make prices reflect real demand more accurately. It deters speculators by imposing higher costs for hoarding properties.

It would also offer a more sustainable source of income to local governments, who would then have less incentive to jack up land sale prices for developers.

Owners, obliged for the first time to pay a regular tax on their properties, may also demand better accountability and services from local officials.

So far, tax trials under way in Shanghai and Chongqing have been too limited in scale - with rates of 0.4 per cent to 1.2 per cent - to yield substantial revenues. Some scholars say a meaningful property tax rate has to be higher, closer to Singapore's general 10 per cent rate, with 4 per cent for owner-occupied homes.

Another consideration is for the rate to be high enough to raise enough money from well-to-do home owners to help fund low-cost housing for the poor.

The authorities said last week they planned to replace the temporary home purchase restrictions with a national property tax. While no date was given, it's perhaps the strongest signal yet that Beijing is aware it has to go beyond piecemeal measures to tackle China's property bubble - or risk even greater turbulence.