The Chinese real estate market is in the midst of a slowly evolving crisis.
Property prices have fallen as authorities seek to rein in unsustainable debt and market speculation. Hundreds of thousands of homebuyers are refusing to pay their mortgages on pre-sold properties as developers struggle to complete housing projects on time.
With real estate accounting for 15-30% of China’s gross domestic product (GDP), market woes are causing problems for the world’s second-largest economy — and potentially global growth as well.
Why is the Chinese real estate market in crisis?
China’s real estate problems are, in part, the result of deliberate political decisions. In August 2020, Beijing rolled out a “three red lines” policy aimed at carefully deflating a huge housing bubble that had taken decades to form.
The policy had a dual purpose: to reduce the economy’s overreliance on real estate and to curb the speculation that had put house prices out of reach for many middle-class Chinese.
Under the policy, developers were required to meet strict financial health markers, including a 100% cap on net debt to equity, to borrow from banks and other financial institutions.
It turned out that many promoters were operating well outside the “three red lines” and were saddled with huge debts. Suddenly unable to borrow under the new rules, the sector faced a severe shortage of cash.
In December, Evergrande, one of China’s biggest developers, defaulted on interest payments owed to its offshore bondholders, followed soon after by Kaisa Group Holdings.
House prices fell for an 11th straight month in July and are down 30% from a year ago.
“What China is going through right now is a policy-induced crisis,” Gabriel Wildau, managing director of risk analysis firm Teneo, told Al Jazeera.
“What I mean by that is that people have been warning about a housing bubble for many years, and for good reason, but the acute stress the market is under right now is a direct result of restrictions very draconian on loans to developers that were imposed about a year and a half ago.
The sector’s problems have intensified since then as cash-strapped developers have struggled to complete projects on time.
After starting in the southeastern city of Jingdezhen earlier this year, protests involving some 300 homeowner groups have spread to nearly 100 cities across the country.
Deutsche Bank has estimated the value of mortgages affected by the boycotts to be 1.8 to 2 billion yuan ($270 billion to $300 billion), or about 5% of all mortgages.
“The crux of the problem is that property developers have insufficient cash flow – whether due to debt service charges, weak home sales or misuse of funds – to continue projects,” said Tommy Wu, chief economist at Oxford Economics, in a statement. note earlier this month.
“Resolving this issue will restore homebuyers’ confidence in developers, which will help support home sales and, in turn, improve the financial health of developers.”
Could the real estate crisis in China lead to a global economic crash?
China’s real estate woes pose a major risk to its economy, which is already strained due to Beijing’s tough “zero-COVID” policies and slowing global growth. By some estimates, real estate accounts for 30% of GDP, roughly double the equivalent share in the United States.
While some analysts believe the market has bottomed out, the sector’s woes are likely to persist for some time. In July, S&P Global Ratings estimated house prices would drop 30% this year, a worse drop than during the 2008 financial crisis.
“It’s just a huge part of the economy that’s kind of underwater now,” Teneo’s Wildau said. “Even continuing at the pace we are at is, I think, unsustainable. This would mean that growth would be significantly below target for this year if it continues like this.
Because Chinese property developers hold relatively little overseas debt, the global economy is not considered at high risk of the type of financial crisis caused by the collapse of Lehman Brothers in the United States.
But the size of China’s economy, which accounts for almost a fifth of global GDP, means a major slowdown could still have a serious impact on global growth.
“The global impact is mainly due to very weak growth in China, it’s not so much a financial impact,” said Alicia García-Herrero, chief economist for Asia-Pacific at Natixis in Hong Kong, at Al Jazeera.
“Of course, if Chinese banks ultimately can’t swallow this shock and their non-performing loans increase massively and there’s a financial crisis in China – which I don’t think will happen immediately – it will be more like Japan in the 80s and 90s So struggling with bad debts, no credit, economy doing very badly, deflation – that’s, I think, the scenario So not an immediate type event Lehman.
The World Economic Forum has estimated that every one percentage point drop in China’s GDP leads to a 0.3% reduction in global GDP.
In a 2019 study by the US Federal Reserve, economists estimated that an 8.5% drop in Chinese GDP would lead to a 3.25% decline in advanced economies and almost 6% in emerging economies.
The Chinese economy is unlikely to experience an economic collapse of this severity. But it could be on course for a prolonged recession that dampens global growth in the coming years, analysts say.
Wildau said Chinese policymakers have tools that are not readily available in more capitalist countries to avoid a full-scale financial crisis.
“Chinese leaders have a much higher degree of control over the financial system and the real economy than American policymakers did in 2008. So they have the tools to avoid an acute crisis,” he said.
“They have the tools to avoid financial contagion and a complete collapse in credit flows because they can just order banks to lend. They can work outside the statutory bankruptcy system to keep everyone liquid, to avoid messy chains of default.
But Teneo’s Wildau said China could still face years of economic stagnation, which would look like a recession to many Chinese after decades of strong growth.
“We could just see an extended period of slow growth, something more like a Japanese scenario, kind of a sharp downturn over many years, even in the absence of acute financial distress or market panic,” he said. he declared.
What is China doing to resolve the crisis?
Beijing has signaled that supporting the real estate market is an important task despite its determination to reduce the economy’s dependence on the sector.
At a meeting of China’s top decision-making body in July, officials said there was a need to “stabilize” the real estate market while stressing that local governments should take responsibility for ensuring pre-sold homes are completed.
Earlier this month, Chinese media Caixin reported that Beijing was preparing to issue 200 billion yuan ($29.3 billion) in loans to complete unfinished housing projects.
Beijing has also taken steps to stimulate the economy more generally, such as lowering interest rates and rolling out stimulus measures, including last week’s announcement of Rmb 300 billion ($44 billion). ) new loans via its public banks.
“We anticipate that additional funds will be put in place to support the completion of unfinished homes,” Wu, the Oxford Economics economist, said in a note.
“Indeed, the communiqué from the July Politburo meeting insists on the need to stabilize the real estate market and ensure the delivery of houses. We believe that these efforts are unlikely to come directly from the central government. Instead, authorities will likely ask local governments, banks and property developers to coordinate and ensure unfinished housing projects are completed.
Still, China’s efforts to prop up the market may be limited, with Beijing widely expected to stick to its “three red lines” and Chinese President Xi Jinping’s mantra that “houses are for living in, not for speculation.
Wildau said Chinese policymakers now face the dilemma of whether to continue their crackdown on real estate or reverse the trend in the name of growth.
“If they were to go into a bailout now, it would be going back and rolling back on those gains,” he said.
“It would also be politically awkward because it would look like a reversal or an admission of error. That’s why I think we’ve seen politics be relatively lackluster. We haven’t seen the housing bailout that many investors were hoping for. »