China’s economic stability is under scrutiny as property giants, including the beleaguered China Evergrande Group, face financial meltdowns. Evergrande’s colossal losses, amounting to 812 billion yuan (US$112 billion) for the years 2021 and 2022, overshadow its total earnings since its inception in 1996. The fallout has made investors and global stakeholders anxious, questioning Beijing’s reassurances amidst a potentially turbulent financial landscape.
Evergrande’s recent bankruptcy protection move in a U.S court, known as the Chapter 15 petition, has added to the worries. The move, referencing restructuring activities in Hong Kong and the Cayman Islands, accentuates the challenge Beijing faces: how to ensure trust in its financial system, cater to anxious investors, and address the concerns of homebuyers awaiting their properties.
As global investors and economists keep a close eye on China’s next moves, many are reminded of the 2008 Lehman Brothers‘ bankruptcy that triggered a global financial meltdown. Could China experience its own “Lehman moment,” a cascading systemic risk?
Another property giant, Country Garden, is also treading on thin ice. Estimated losses for the company are anticipated to be between 45 billion yuan and 55 billion yuan for the first half of 2023. If Country Garden defaults on its bond, it could signify a deeper crisis in China’s property sector.
Oxford University’s China Centre’s research associate, George Magnus, however, believes a Lehman-like collapse is improbable in China’s state-controlled banking ecosystem. Authorities can move liabilities around and use creative accounting to ensure stability. Still, Beijing’s resilience will be tested if multiple entities default simultaneously.
The Chinese banking system, dominated by state-owned entities like the Big Four banks, has considerable exposure to the real estate sector. This puts property-related concerns at the forefront of potential risks, given the industry’s deep integration with China’s national economy. From iron ore miners, construction workers, and millions of homebuyers, the ripple effect of a property collapse could be profound.
For context, the 2008 U.S subprime loan crisis was magnified by financial intricacies, leading to a worldwide financial crisis. Could China’s real estate issue follow a similar trajectory? Jon Danielsson of the London School of Economics points out that high growth can mask underlying issues, which become apparent as growth recedes.
China’s property sector has enjoyed two decades of prosperity since home privatization in 1998. It became a pivotal industry, contributing significantly to national growth, especially during the 2010s. But soaring property prices led to speculative buying, prompting Beijing to introduce restrictive measures. In early 2020, property accounted for 59.1% of household wealth in China.
The roots of China’s property dilemma trace back to early 2020 when the COVID-19 pandemic disrupted major developers’ cash flows. In response, Beijing set “three red lines” in August 2020 to limit borrowing, emphasizing that homes are for living, not speculative ventures. By June’s end, bank loans to the property sector increased marginally from the previous year, reaching 53.37 trillion yuan (US$7.4 trillion).
Yet, amidst these challenges, the property sector’s non-performing loan ratio remained relatively low, last recorded at 1.4% in 2020. However, this data hasn’t been updated since, leading to speculations about the sector’s true health.
Julian Evans-Pritchard, chief China economist at Capital Economics, believes that while China’s banks are protected due to state ownership, the shadow banking sector may face tighter credit constraints, especially for high-risk borrowers. Other companies, like Zhongzhi Enterprise Group, one of China’s largest private wealth managers, are also reportedly struggling with repayments.
Beijing’s typical approach differs from Western bailouts. Instead of direct intervention, authorities usually allow state-backed entities to absorb struggling companies. This was evident with Evergrande, as special teams were deployed to oversee property deliveries, manage debt repayments, and maintain social stability.
The challenge for policymakers is immense. As Bridgewater founder Ray Dalio suggests, China might need a debt restructuring strategy similar to the late 1990s, albeit on a much larger scale.
Looking forward, Fraser Howie, co-author of Red Capitalism: The Fragile Financial Foundations of China’s Extraordinary Rise, suggests the best scenario is a gradual handling of ongoing economic issues without sudden shocks or panic. George Magnus adds that the repercussions of the real estate crisis might persist, and solutions might involve significant government, bank, or homebuyer intervention.
To summarize, China’s property sector’s turmoil, led by Evergrande’s staggering losses and potential defaults by giants like Country Garden, challenges Beijing’s crisis management abilities. While experts believe a Lehman-like catastrophe is improbable, Beijing’s strategies and responses in the upcoming months will be critical for China and the global financial landscape.
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