China’s Local Governments Face Money Troubles in Land Sales

As China’s local governments struggle to increase their fiscal revenue, many have decided to scrap some controls on the price of land, traditionally a key contributor to their coffers, in an effort to kick-start sales that dropped 21% year on year by value in the first half of last year after a 23% slump in 2022.

From October to December, at least 17 of 22 major cities had abolished price ceilings on residential land sold at local government auctions, according to real estate data provider China Index Holdings (CIH), including the second-tier cities of Chengdu, Jinan, Hefei and Xiamen.

So far, only one of China’s four first-tier cities, Guangzhou, the capital of Guangdong province, has removed limits. In a Nov. 21 announcement of a residential land auction in the city’s Baiyun district, the government specified the sale would be held under the principle of “highest bidder wins,” indicating there would be no upper limit on the price.

Beijing, also a first-tier city, has so far resisted. The local planning commission issued a statement on Nov. 7 denying media speculation that it would cancel the upper limit on prices at upcoming auctions of land parcels for housing development.

While some analysts say the scrapping of ceilings on residential land prices may help revive sales and potentially boost revenue for the local governments involved, others argue it will have a limited impact on stimulating purchases. They caution it could accelerate a growing divergence in the market for land among regions and cities and even within cities, as areas where demand for housing is strong see prices rise and those where demand is weak see prices continue to fall.

Boom to bust

Income from the sale of land-use rights became an important contributor to fiscal revenue for many local governments over the past 15 years as demand for housing soared. On a national level, it accounted for 42% of local governments’ general public budget revenue and government-managed fund revenue combined in 2021, according to Caixin calculations based on Ministry of Finance data. That dropped to 37% in 2022 and 27% in the first 11 months of 2023. Net revenue from land sales after deducting costs, such as those associated with preparing the land for development, accounted for some 17% of the source of funds for infrastructure investment in 2018, according to estimates by UBS economists. But that fell to 15% in 2020 and 13% in 2022, the bank’s reports show.

The liquidity crisis, which hit developers in 2021 after the government implemented its three red lines policy to curb their leverage, and the subsequent slump in new-home sales started to impact demand for land in early 2022. The decline followed record sales in 2021 that brought in 8.7 trillion yuan ($1.3 trillion) for local authorities.

On a national basis, local government revenue generated from land sales dropped 23% to 6.7 trillion yuan in 2022 and 18% in the first 11 months of 2023 to around 4.2 trillion yuan, finance ministry data show.

In 2021, the Ministry of Natural Resources trialed a new system of land auctions — known as the centralized land sales policy — in 22 key cities. Rather than hold auctions when they wanted to, the cities were required to release a schedule for the entire year and were permitted to hold no more than three auctions a year of land for residential use.

In 2022, private developers accounted for only 16% of local government revenue generated from residential land auctions in those 22 cities, according to a report by CIH in January 2023. That compared with a 79% share taken by state-owned developers. To cover the revenue shortfall from the collapse in demand from private developers, some local authorities told local state-owned enterprises or financing vehicles to buy land at auctions to fraudulently inflate their fiscal revenue, a practice the Ministry of Finance subsequently banned in September 2022.

Limited impact

In the first eight months of 2023, total spending on land acquisition by the country’s top 100 developers by sales fell 12.9% year on year to 961.9 billion yuan, according to a report by analysts at BOC International (China). Even so, the analysts said they expected state-controlled developers would still dominate land auctions in the short term and account for more than 60% of the total land buying, as they had more cash reserves than their private counterparts.

Analysts are divided on whether removing the cap on residential land prices will help ease the fiscal strain on local governments. Yan Yuejin, research director at Shanghai-based E-house China R&D Institute, suggested the move might help boost land sales revenue in some areas where housing demand is strong and developers will be prepared to pay more. But overall, it will have a limited impact on spurring demand from developers because of the continued weakness in home sales, he told Caixin.

A report published in November by real estate information provider Anjuke showed that in August and September, only 20% of residential land sold at auction in the 22 cities involved in the centralized land supply scheme reached the ceiling price, down from 67% in January 2023. This suggests that developers were unwilling to bid up prices.

Although it is still early, the cancellation of the cap on residential land prices has had little impact on demand. The first auction by the city of Jinan after removing the limit saw most of the land on offer sold at the reserve price, Anjuke’s report showed.

The key to reviving land sales is a recovery in the sale of new homes, wrote Ding Zuyu, CEO of property consultancy E-House (China) Enterprise Holdings, in a commentary in October. “If sales in the housing market do not improve, land sales in most cities will remain challenging,” he wrote.

But at least in the short term, a recovery in new-home transactions looks unlikely. Total sales of the top 100 real estate developers amounted to 5.7 trillion yuan in the first 11 months of 2023, a year-on-year drop of 14.7%, according to data compiled by CIH. Their monthly sales revenue plummeted 29.2% year on year in November, marking the sixth consecutive month of declines.

Among the top 50 property developers, only those controlled by the central government or local authorities recorded sales growth, with the value of transactions rising 8.2% year on year in the first 11 months of 2023, according to a CIH report. Sales by private developers and mixed-ownership developers with state-owned shareholders both dropped.

Short-term rebound

Weak sales have taken their toll on the land market. Nearly 70% of the top 100 developers in terms of land acquisition refrained from making additional purchases in November, according to CRIC.

Developers controlled by the state or local governments dominated land purchases from January to November 2023, with a particular focus on major cities.

As more cities lift the cap on residential land prices, the market may experience a mild rebound, CRIC analysts wrote in a December report. “Some parcels of prime land may trigger intense bidding, but overall, market enthusiasm is expected to remain at a low level,” the report said, indicating that the removal of the cap on residential land prices will not have a significant impact on alleviating the fiscal shortfalls in local government revenue or shoring up the struggling real estate sector.