The real estate markets in China's major second-tier cities have been red hot in the first half of this year. By some measures, the real estate markets in these cities have outperformed those in first-tier cities. Although there are several factors driving up prices in second-tier cities, such as local governments' dependence on land sales for funding, the most relevant reason for this recent surge has been increased demand from investors. As first-tier cities have tightened restrictions on housing purchases in their own markets, investors have set their sights on smaller cities. Experts, however, have cautioned that the real estate boom in second-tier cities is not sustainable, and local governments have already started to take action.

Signs read "sold out" on property models at a real estate sales office in Nanjing, capital of East China's Jiangsu Province on February 28. Photo: CFP

When considering soaring housing prices in China, it is unlikely one would think of the city of Hefei first - or even second.

And yet, housing prices in the capital of East China's Anhui Province rose faster than in any other city except one in May, skyrocketing 47.69 percent year-on-year, according to statistics from the China Real Estate Association.

The rapid increase has alarmed the city's government, which announced last week that it will implement new curbs on real estate purchases starting from this Friday.

A red-hot real estate market isn't unique to Hefei. Housing prices have been soaring in China's first-tier cities for a while, but over the last few months, the phenomenon has spread to the country's second-tier cities, especially Hefei, Xiamen in East China's Fujian Province, Nanjing and Suzhou, both in East China's Jiangsu Province.

Domestic media has gone as far as to dub these four cities the "four little dragons" due to their soaring real estate prices.

Housing prices in Hefei, Xiamen and Nanjing each rose by more than 20 percent year-on-year in May, according to data from the National Bureau of Statistics.

By some measures, the real estate markets in these cities have eclipsed those of first-tier cities such as Shanghai and Shenzhen, where local governments have already taken steps to curb skyrocketing prices.

Those measures are one of the primary drivers behind this most recent surge in housing prices, as investors who can't buy in the first-tier cities take their money elsewhere in China, experts said.

The trend has raised concerns about a real estate bubble forming in Hefei and other second-tier cities, pressuring local businesses with high rent prices, making housing less affordable and leading to calls for local governments to take action.

Shift in demand

The real estate markets in major second-tier cities remain driven by many of the same factors that have been pushing up housing prices across China for more than a decade, such as local governments' ongoing dependence on land sales for revenue.

It's not surprising that land transfer fees - which local governments charge real estate developers to build on the land - have surged this year in second-tier cities.

China's second-tier cities collected 613.91 billion yuan ($92.82 billion) in land transfer fees in the first half of 2016, an increase of 56 percent from the same period in 2015, cet.com.cn reported on Sunday, citing data from the Centaline Property Research Center.

Meanwhile, land transfer fee collections in first-tier cities were down 17.3 percent year-on-year.

Looking at individual cities, the difference becomes more pronounced. In Suzhou, Nanjing and Hefei, land transfer fee collections grew faster than anywhere else in China, data showed. In Suzhou, collections rocketed by 867 percent in the first half of 2016.

Local governments have played an important role in pushing prices higher as they seek funding for infrastructure projects, experts said.

But it's not the only reason to explain why prices have risen so quickly in second-tier cities this year.

Experts have also pinned the price surge on a change in demand, driven largely by government policies in first-tier cities aimed at keeping housing prices under control.

"The main reason for the recovery in the second-tier cities is that these cities have absorbed the surplus demand from the first-tier cities, where local governments recently put in place a series of restrictions on housing purchase," said Shi Liang, general manager at Shanghai Zhigo Asset Management Co.

First-tier cities have gone to great lengths this year to hold down housing prices.

On March 25, the Shenzhen government implemented purchase and credit limits for its real estate market.

For example, it increased the minimum down payment requirement on second homes from 30 percent to 40 percent, according to media reports.

The government also made it a lot harder for buyers without local residency to purchase homes in the city. 

On the same day, the Shanghai government announced its own policies to curb housing purchases, such as increasing the minimum down payment requirement on larger homes to as much as 70 percent.

Some media reports called these measures "the harshest ever."

Shi's view was echoed by an expert surnamed Huang, a veteran industry insider with one of China's largest real estate information providers.

"Some rigid demand for housing was diverted to the second-tier cities," Huang told the Global Times Friday.

Bubble trouble

Although there haven't been any signs that housing prices in second-tier cities will fall, experts cautioned that it is easy for a real estate bubble to form.

The problem is that there aren't many fundamental reasons for housing prices to rise as fast as they have.

The housing market in second-tier cities is more or less balanced, so there's no support for an ongoing increase in housing prices, Xiang Zheng, a doctor of economics at the Central University Of Finance and Economics, wrote in an article for stcn.com on June 21.

 These cities are also not receiving the large population inflows necessary to justify building more houses. In addition, China's aging population will lead to an excess of housing, which will limit the room for price increase.

Media reports have also pointed out that soaring housing prices will cause commercial rent prices to rise, hurting local manufacturing.

So, sky-high housing prices could hurt second-tier cities if the government doesn't roll out effective measures to prevent speculation, sina.com.cn reported on Sunday.

Renewed restrictions

So far, Hefei has been the most prominent second-tier city to rein in its real estate market. On June 21, more than 20 local government departments  in Hefei met to figure out how to keep housing prices in check, such as raising minimum down payment requirements for mortgages.

The government also tightened lending standards and increased the supply of land available to developers.

"By tightening credit, the Hefei government has indicated that it wants to rein in its real estate market," Yan Yuejin, an expert from E-house China R&D Institute, was quoted as saying by the China Business News on Thursday.

Yan predicted that more second-tier city governments will also follow suit, which will curb the rise of housing prices.

"The central government will adopt a differentiated approach to regulating the housing market in different parts of the country," Zhang Dawei, chief analyst at Centaline, was quoted by the China Business News on Thursday.
Newspaper headline: Second-tier cities witness first-tier boom in real estate