Chinese property developers are stepping up the use of sales promotions for some suburban housing projects, an early sign that a slowdown in property prices that spooked investors this week may be spreading.

In the big cities, demand remains robust and the chances of a slump in prices are slim, according to a Reuters poll. But prices are falling in some smaller centers, causing jitters among investors since the property sector drives a significant portion of the world's second-biggest economy.

Developers are offering price promotions like free car park spaces and renovation options that translate into discounts of 5-10 percent even in developments on the edge of the capital, Beijing, according to real estate firm Knight Frank.

"In some areas where sales are not good, developers are offering discounting or more promotions, even in suburban areas an hour away from Beijing city," Thomas Lam, Knight Frank's head of research & consultancy for Greater China, told Reuters.

The comments follow recent reports that developers have cut prices in some smaller cities in eastern China, about an hour from the commercial capital Shanghai, while one bank said it had cut back on some lending to developers.

On Monday, the government released data showing that price increases in the country's biggest cities slowed for the first time in 14 months.

The combination of these comments has sent the Shanghai Property Index down more than 7 percent since Monday, its biggest three-day drop in eight months, as rattled investors eyed the prospect of a possible burst property bubble.

Although the Chinese government, mindful of the social and economic consequences of a property collapse, has a long-declared goal to cool the frothy property market, any sharp fall in prices could cause huge problems.

Real estate investment accounts for 15 percent of the country's gross domestic product and is a major driver of demand for commodities such as steel, copper and aluminum.

A more worrying impact could be on the so-called shadow banking system, a parallel and unregulated sector that has emerged out of the government's credit clampdown on mainstream banks. A lot of shadow bank financing products use property as collateral.

"This is why it's so dangerous to have a financial system significantly reliant on ever-rising property prices to create credit," said David Cui, a China strategist at BofA Merrill Lynch in Hong Kong. "When the tide turns, the negative loop can kick in fairly quickly."

"Banking is so highly leveraged on property prices, any disturbance there will be very difficult to handle," he said.

SOCIAL INSTABILITY

The recent roiling of the market has drawn the attention of state media.

An editorial in the official China Daily newspaper on Wednesday urged the government to prevent house prices from becoming a source of financial and social instability [ID:nL3N0LV0N9].

The official Xinhua news agency said in a separate commentary that local government and developers were partly to blame for driving up potential financial risks.

"It should ring the alarm for profit-seeking property developers and GDP-fixated local governments to rein in irrational real estate development and proactively adjust policies before it is too late," Xinhua said.

"China's property market might have outgrown its boom days, but predictions of an imminent property bubble burst and economic crash are premature," it added.

According to a separate poll of 13 industry watchers by Reuters this week, the chance of a sharp drop in China's property market is slim, although some smaller cities may see a correction of up to 10 percent.

Most predicted a continued rise for property prices, if not at the levels seen last year.

Analysts also see a split between cities of different sizes. In the property market, China's cities are loosely split into four tiers, though there is no clear definition of each tier.

Demand in the so-called tier-1 cities, generally taken to mean the major wealthy mega-metropolises including Beijing, Shanghai and Guangzhou, is set to rise further, while slowdowns could emerge in the tier-2 and tier-3 cities, loosely defined as provincial capitals and towns below that level, analysts say.

Local media reported this week that home-owners in the eastern city of Hangzhou, generally considered a tier-2 city, were protesting against steep discounts being offered by some developers, since that affected the value of properties they had bought at higher prices.

One small developer had cut prices by 12 percent in Hangzhou, Xinhua said, adding that a day later another company slashed prices for a development in the same city.

Shimao Property <0813.HK>, Country Garden <2007.HK>, Agile Property Holdings <3383.HK>, Evergrande Real Estate Group <3333.HK>, China Vanke <000002.SZ> and Sunac China Holdings <1918.HK> all bought land in Hangzhou recently, according to Credit Suisse.

Hong Kong-listed developer Agile has offered discounts of more than 40 percent at a project in the second-tier city of Changzhou in the east of the country, according to private consultancy CRIC.

"A proper correction would be beneficial to all. Even we developers don't want to see such high prices because a sudden surge in prices must come with risks," said Liu Zhuogen, executive director at Tonic Industries Holdings Ltd <0978.HK>, a unit of mainland developer China Merchants Property Development <000024.SZ>.

"A correction in some parts of the country is appropriate."

Still, China is nowhere near a situation of negative equity in property prices which typically is a tipping point for the market, said Savills' China head of research, James MacDonald.

"The good thing with China is that most people have built up significant equity within their property holdings, especially with down payment requirements on new purchases in excess of 30 percent. Unless prices fall very significantly, individuals are not going to go into negative equity," he said.

"It's unlikely that we'll see a significant sell-off in the short term."

(Additional reporting by Yimou Lee in Hong Kong, Xiaoyi Shao in Beijing and the Shanghai Newsroom; Writing by Anne Marie Roantree; Editing by Jonathan Standing and Raju Gopalakrishnan)