BofA Merrill: Relax, No China Housing Crash Is Coming

Despite growing market concerns, China does not have significant over investment in its urban residential property sector, and it will not have a big housing crash, a financial meltdown, or an economic hard-landing, says BofA Merrill Lynch Global Research in a report.

Slumping real estate indicators, such as home sales and new home starts, have led markets to again believe that China’s urban residential property sector, plagued by oversupply, is set to implode.

But BofA Merrill has a different take. The bank believes that Chinese housing sector is mis-allocated, instead of having an oversupply issue, which is due to China’s Hukou and the rural land system.

China’s housing supply is mis-allocated between urban and rural, developed and less-developed regions, and big and small cities. The effort to urbanize hundreds of millions of rural migrant workers has been hampered by the Hukou system, which determines an individual’s ability to access public resources based on region, and by local protectionism and an unfair land ownership system.

Though China’s headline urbanization ratio was 53.7% in 2013, up from 36.2% in 2000, a third of the urbanization consists of rural migrant workers without access to public services.

The housing over investment and oversupply view expects a sustained decline in home-building, and all of the subsequent economic consequences. BofA Merrill’s mis0allocation supply view offers that new urbanization, driven by reforms to Hukou and land ownership, will change the housing landscape.

In the past, people bought homes where they were from. In the future, people will buy homes where they work. As migrant workers settle down, demand for better homes and better public facilities will increase. There will be ghost towns as people move to cities with jobs, and more small developers will likely go bust. But the bank rules out a systematic crisis.

However, the bank acknowledges that there are concerns in China’s housing sector. It forecasts that a slowdown is inevitable, following sustained double-digit housing growth. It also expects headline housing data to get even worse before getting better, and expects a sharp rise in the number of small developers roiled by financial troubles.

The bank’s policy recommendations including scrapping the outdated Hukou-based home purchase restrictions, except for those in top-tier cities. Also, the Hukou system should be revised to give migrant workers access to public services.

The rural land system should be reformed so rural migrant workers can swap their residential and farming land for homes and Hukou in cities. Lastly, the fiscal regime should be improved so local governments can get long-term financing for building infrastructure, and the central government should take more responsibility in funding urban infrastructure.