By Ashish Advani

The one fear that resonates in the hearts of the global growth trackers is the property price bubble in China. If there is one major overhang, it is whether the Chinese government can halt this bubble without crushing the red hot economy. And further more, do they have the will to stop this hurtling train?

The China State Council has just announced a series of measures aimed at deflating a property bubble. The measures included imposing a minimum 30% down payment on first homes larger than 90 square meters, and requiring a minimum 50% down payment on second-homes.

The fact that the down payment on a second-home was already 40% underscores the extent of the government’s challenges. High savings rates, tight capital controls, and limited investment options have raised the risks of a bubble substantially in recent years.

The temptation to maintain easy policy towards the property sector is also strong given that everything from selling land, building apartments, to manufacturing steel and furniture are all major drivers of economic activity.

So, the recent measures are an encouraging start. However, they would be assisted by deeper reforms, such as easing capital controls, requiring state-owned firms to pay larger dividends, to opening up new areas for investment, such as the services sector.

And how does this affect the yuan?

I believe that we will see a short revaluation of the yuan of about 3% in the next 45 days. This move is not based on economic fundamentals but political negotiations between US and China over Iran. The band for yuan value will also be expanded from the 0.5% today to a possible 1% for the future.

Unless we see a serious and sustained slowdown in property prices, we will see a dramatic increase the asset price risk which will lead to large scale tightening (higher Interest Rates) of monetary policy. And while this may bring down growth rates to around 9%, we will see a decline in property prices.

As a result of reduced risk to the economy via lower property prices along with higher interest rates as well as political deal making, I expect to see a higher yuan in the next 12 months with a 9 month forecast of 6.00 on the yuan.