Keynes and Hayek in China’s Property Markets

An article titled like this surely gets its eyeballs and readership. Moreover, most economic policy debates can be divided as state vs markets or Keynes vs Hayek/Friedman.

Andrew Sheng and Xiao Geng show how Chinese housing policy is also around 2 schools:

In an attempt to manage the growth of these cities, which faced a huge shortage of land, housing inventories, and urban public infrastructure, China’s government imposed restrictions on both demand for and supply of housing. But, as the spike in housing prices in these cities shows, their efforts didn’t work.

Chinese policymakers had forgotten about Hayek. Otherwise, they would have expected that labor and capital markets would continue to drift toward growth and innovation in urban centers. They would also have recognized that market prices naturally transmit complex, specific, and changing local knowledge, which is distributed among individuals and corporations, not controlled by central planners. And they would have appreciated that if supply is to be matched with demand over time, real-estate and infrastructure investments must reflect that knowledge.

Instead, China’s policymakers inadvertently created bottlenecks in local land supply. Residential land transactions in first- and second-tier Chinese cities remain thin and heavily influenced by urban planning policies, despite the depth and sophistication of residential property markets.

Fortunately, there is scope for China’s urban planners to relax restrictions on the supply of land and on the floor area ratio (the ratio of gross floor area to the size of the lot on which the building stands). According to a study by China International Capital Corp, the urban built-up area in Shanghai is only 16%, compared to 44% in Tokyo and 60% in New York City. Within that area, only 36% is used for residential functions in Shanghai, compared to 60% in Tokyo and 44% in New York City.

In other words, the available residential land for sale in Shanghai is considerably smaller than that available in New York City or even Tokyo, which is a major reason for surging property prices in these cities. And, in fact, if the supply of land and usable floor area is not increased, more spending on local public infrastructure will cause prices of existing space to rise even higher.

Interestingly, these restrictions overstate the housing problems in China:

If that is the case, the risk of a property bubble in China is probably being overstated. But that does not mean that all is well in China’s property sector. If the government ignores market price signals, mismatches between supply and demand could build up, undermining growth in dynamic regions, while leaving low-growth regions weighed down by excess capacity and bad assets.

The good news is that there is still considerable room for policy maneuver. The question now is whether the Chinese authorities will manage actually to recognize and respond effectively to market signals.

China barely cares for economics as understood in west. The role of central agency has always been a crucial part of their history. Their response is not just to market signals but many political ones as well…


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