System shocks and property market institutions

Participants at the Beijing roundtable on property markets (Photo: Unirule)

I first traveled to China in 2001 not long after the real estate reforms of 1999 to help build professional real estate services there. China was committed to moving to more privatization of its real estate markets and there was a great desire to replicate – often uncritically – the success of U.S. property markets. It was quite a different world on my recent trip to China to attend an expert roundtable held earlier this month by the Unirule Institute of Economics at Renmin University in Beijing on the findings of the International Property Markets Scorecard.

The roundtable was a part of CIPE’s larger program in Armenia, China, Kenya, Philippines, and Russia meant to explore the barriers faced by small businesses in urban commercial property markets and ways to overcome them. The scorecard is a tool evaluating various elements of property markets, such as property rights or access to credit, showing interconnections between them, and highlighting priorities for reform. The roundtable participants engaged in a lively debate and were determined to make sure that local circumstances are accurately represented in the scorecard. “This came from the U.S. so it will need to be adjusted.” This was a new attitude, openly expressed.

Today real estate is the hot topic in China. Residential housing in urban areas was the first wave and privatization of residential markets has led to enormous speculation in apartment prices. Everyone now wants to get rich in real estate. The government recently issued a Purchase Limit Order – limiting each family to buying two apartments. The Chinese experiment with partial privatization has led to regulation problems just as the lack of regulation led to problems in the sub-prime crisis in the U.S.

Property is a mean for distributing power – and for creating economic opportunity. This requires appropriate regulation, primarily to monitor system drains. If systems are not aligned properly, power will be diverted to few and economic opportunity will be undermined for many. Ultimately such diversions can cause system failures. The U.S. housing market has yet to recover from the last system failure.

Credit markets across most assets types in the U.S. remain tight. The Chinese are now also pulling back in commercial markets where there is a trend toward renationalization. Property rights and access to credit are core elements of the property market system. A shock in one area spreads around the entire system, not only affecting residential mortgages but the availability of loans for small businesses.

China’s property market system is a dual system. Property rights are bifurcated into land use rights and buildings. The appropriate regulation in a dual system is even more complex. As China formalizes its property markets there are enormous costs. Over the last decade people have at least been compensated when their land and homes are taken for development, although the structure of incentives and fairness of compensation is often in question. At the roundtable one of the participants mentioned that he knew someone who was told by local officials that they could get more money if they demolished their home. The farmer set to tearing down his own house.

So U.S. citizens are walking away from their mortgages while Chinese farmers demolish their own homes – each hoping for a better life. Over the last decade, I have seen the U.S. and China meet in the middle of the economic cycle – the U.S. on the way down, China on the way up. At this unique moment we have to take responsibility and realize we are now in one integrated system. To avoid more shocks, and to create more economic opportunity based on sound market institutions, we all have to work together with more honesty and trust to see that power through property rights is more equally distributed for the citizens of the world.

Bill Endsley is a CIPE consultant and principal of the Chicago-based World Citizen Consulting with broad experience in developing international property markets as a means for broader economic development and global security.

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