Land sales in 20 major cities fell 5 percent in March from a year earlier, the biggest drop in at least a year, according to China Real Estate Information Corp. data compiled by Bloomberg. The value of land sales in third-tier cities declined 27 percent last month, according to SouFun Holdings Ltd., the nation’s biggest real-estate website owner.

Failure to find other revenue sources increases the risk of defaults and financial turmoil that curb economic expansion already projected this year at the slowest pace since 1990. Some cities plan to reverse controls implemented to make home prices more affordable or give residency benefits to out-of-town buyers, a state-run newspaper reported this week.

“As the housing market is cooling off, we expect land-sale revenue will decline and this will add pressure on the funding capacity for local governments,” said Zhu Haibin, chief China economist with JPMorgan Chase & Co. in Hong Kong. Land sales will drop more in areas where oversupply in property is more severe, said Zhu, who previously worked at the Bank for International Settlements.

The weakness adds to the urgency of expanding China’s municipal-bond market so regional governments can sell debt directly to the public instead of through off-budget corporations called local-government financing vehicles. A sample of provincial, municipal and county administrations shows they have guaranteed repayment of about 37 percent, or 3.5 trillion yuan ($560 billion) of debt with land sales, according to a national audit report released in December.

Default Monitoring

The People’s Bank of China said it will strengthen monitoring of credit extended to LGFVs, real estate companies and industries with overcapacity to minimize risks to the financial system. The central bank will maintain a “prudent” monetary policy, according to a quarterly report.

A worsening market downturn would increase pressure on national leaders to ease monetary policy for the first time since 2012. Premier Li Keqiang and other officials have outlined plans for railway spending and tax breaks to support growth while pledging to avoid any short-term, large-scale stimulus that could exacerbate debt risks.

The government budgeted for an 11.8 percent drop in land- sales revenue in 2014, according to the Finance Ministry’s annual work report in March. Nationwide, land sales in 2013 were equivalent to about 61 percent of local-government revenue, according to figures from the Ministry of Land and Resources and the Finance Ministry.

‘Snowball’ Risk

“More policy easing in the next few months will be critical, as the property correction could snowball,” Nomura economists led by Zhang Zhiwei in Hong Kong wrote in a May 5 report. “Local governments are likely to be under even more pressure to help the property sector as their fiscal revenue generation is so highly dependent on land sales.”

Developers may have less incentive to buy land as a 25 percent plunge in new-building construction helped drag economic growth in the first three months of this year to 7.4 percent, the weakest in six quarters. Without stimulus, property- investment expansion may slow enough to push down expansion to as low as 5.8 percent, Nomura said.

“Just as happened before the property bubbles burst in the U.S. and Japan, monetary policy tightening” is playing an important role in the property downturn’s timing and pace, Zhang wrote.

‘Right Time’

HSBC Holdings Plc economists said in a May 5 report that “now is the right time” for the central bank to help private investment. Long-term interest rates “have stayed stubbornly high,” wrote analysts led by Qu Hongbin in Hong Kong.

The March collapse of closely held developer Zhejiang Xingrun Real Estate Co. may foreshadow a shakeout among the nation’s almost 90,000 real estate companies. Developers, who buy land, will probably face more challenges this year as access to funding narrows, according to a Bloomberg News survey in March.

Some small and medium-sized Chinese developers are facing financing issues and there will be more such cases in the second half of the year, according to a front-page commentary today in the China Securities Journal, which is supervised by the official Xinhua News Agency.

Local governments will feel the impact if the property market keeps cooling, said Shen Jianguang, chief Asia economist at Mizuho Securities Asia Ltd. in Hong Kong. “This does not have to be a bad thing because they can explore other methods to boost revenue -- say, selling other assets,” Shen said.

Local Assets

Businesses controlled by local administrations, which range from hotels to retailers to power generators, had assets of 43.8 trillion yuan as of the end of March, according to Ministry of Finance estimates.

“The key is the fiscal reform, to get rid of the reliance on land sales,” Shen said.

Cities including Tianjin, Hangzhou and Changsha plan to stimulate the property market by loosening home-purchase limits or letting buyers get household registration, according to a report in the China Securities Journal. Nanning, the capital of southern Guangxi province, said last month it would waive a 2011 rule discouraging speculative investment by residents of neighboring cities, Xinhua reported.

Two Lots

In Hangzhou, the capital of eastern Zhejiang province and base of China’s e-commerce giant Alibaba Group Holding Ltd., only two lots of land were sold in April, a two-year low, according to SouFun. The average land premium, or the spread between the developer’s bid and the government’s asking price, decreased to zero in April from 0.2 percent in March and 30 percent in December, SouFun said.

Zhejiang province has the highest level of reliance on land sales for revenue and may be more exposed to the volatile property market, according to a March report by Moody’s Investors Service. At the end of 2012, 66.3 percent of government debt at the provincial, municipal and county levels in Zhejiang was guaranteed by land-sale revenue, the province said in in its January debt-audit report.

“If the government wants to stabilize growth, real estate is essential,” Mizuho’s Shen said.