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China's addiction to lucrative land sales could spell trouble

Funding method for economic stimulus seen as unsustainable

SHANGHAI -- Even as China enjoys healthy economic growth, its blind faith in rising land prices is creating a dangerous habit of municipalities relying on property sales to support public spending.

Gross domestic product rose a real 6.9% on the year in the January-March period, according to the National Bureau of Statistics, marking a second straight quarter of faster growth, with the economy coming within the 2017 target of around 6.5%.

But this rosy number masks local governments' seemingly unsustainable funding method.

The recent sale of a plot in the town of Xiaokunshan in Shanghai's Songjiang District is a case in point. The town is hardly a convenient location, closer to neighboring Jiangsu Province than to central Shanghai and 7 to 8 kilometers from the nearest train station. But the land sold off by Shanghai fetched a whopping 36,000 yuan ($5,227) per sq. meter -- equivalent to prices in Tokyo's wealthy Setagaya Ward.

The buyer plans to build a condominium building and sell units for about 50,000 yuan per sq. meter, neighbors speculate. A 120-sq.-meter unit would accordingly sell for 6 million yuan.

The price level seems adequate, considering construction costs and profit for the real estate developer. But plenty of properties in the area called Jiading, closer to downtown Shanghai, fetch just over 40,000 yuan. Luxury condos in the heart of Shanghai go for 100,000 yuan to 150,000 yuan per sq. meter, while prices in residential areas half an hour away from the business district range from 80,000 yuan to 100,000 yuan. The numbers come down to the 40,000 yuan range in the suburbs. The recently auctioned price in Xiaokunshan cannot be justified unless the buyer bets that prices will continue surging for quite some time.

Regional governments raked in 948.6 billion yuan from land sales in the first quarter, up 29.9%. Their overall revenue -- mostly tax income -- totaled 2.42 trillion yuan. Land sales provide much of the revenue for these governments.

Such abundant revenue is driving the Chinese economy for sure. Spending on roads, airports and other infrastructure jumped 23.5%. Funding for public works is provided not only by regional governments, but also by state-owned entities called local government financing vehicles as well as public-private partnerships.

China's total social financing -- credit and liquidity obtained by businesses, consumers and other players in the economy -- has been growing at a double-digit clip, exceeding nominal economic growth. 

The Shanghai motor show drew heavy traffic when it opened to the public Friday. Automobile sales topped 28 million vehicles in 2016 and are projected to flirt with 30 million this year. But a senior executive at a major automaker looked gloomy, saying sales slumped in January and February.

Beijing has scaled back small-vehicle tax breaks and plans to do away with them by year-end. Auto sales soared at the end of 2016, before the rollback, but have seen ups and downs this year. Incentives stoke demand that inevitably falls down the road, just as Japan's home electronics industry has learned. 

The winning bidder for the Xiaokunshan plot was a developer associated with a state-run entity. Proceeds from the sale will help local government finances, and a state-run bank likely provided the buyer with credit. The Chinese version of the "land standard," in which funding and credit are provided on the assumption that land prices will keep rising, may not collapse anytime soon. But neither is it sustainable.

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