Urban renovation funds distort realty markets in small cities

ACCORDING TO REPORTS, the central government will soon tighten up its control over the urban renovation funds provided to cities. Beijing News commented on Tuesday:

In most third- and fourth-tier cities, where the supply of houses exceeds demand, local governments tend to give money directly to the residents in areas to be renovated, so they can buy new properties themselves.

The money comes from central government loans that local governments pay back with some of the income they receive from selling the land to real estate developers, where shanty towns are demolished. And the residents spend most of the compensation money buying new houses elsewhere in the city.

Such a cycle would seem likely to create a multiwin situation, keeping the housing market in equilibrium. But that assumption has not held water in practice, as it ignores the local governments’ and the real estate developers’ insatiable appetite to seek profits from the land and house deals.

The true picture is that the housing prices in some small cities have risen rapidly, and land has become more and more expensive. The funds that the central authorities provide with the intention of meeting people’s basic housing needs have evolved into an indispensable link in the heating up of the realty markets in small cities.

The compensation the residents receive for relocation, which used to be sufficient for them to buy new houses, is now only enough to pay for the down payment for a mortgage in some cities, where housing prices have become irrational.

In just two years, the supply of houses in some small cities has fallen short of demand. So if the central government reduces the renovation loans it offers to the governments of small cities, it will immediately put an end to the vicious cycle, keeping the real estate market in small cities developing on the right track.