China’s property crisis – The great pyramid scheme

For centuries there has been a tradition in China whereby those who have been wronged can travel to Beijing to personally explain their concerns to the emperor. This tradition survived the communist takeover and continues to this day. People from all over the country are allowed to submit their petitions to higher authorities and, in extreme cases, even travel to Beijing.

That’s exactly what local officials in Henan province wanted to prevent. Thousands of people have been unable to access their savings there since April and are protesting against it. The officials therefore set the protesters’ “health codes” to red. In China’s high-tech hygiene dictatorship, this means: contagious, ie. quarantine camp, complaints are no longer possible. The report made it into the Western press, although the few remaining foreign correspondents in China are currently practically immobile and will not leave Beijing and Shanghai.

In the coming weeks something more emerged – on the one hand about China’s rigid Covid regime, but above all about China’s real estate sector and banks. $1.5 billion — that’s probably the amount small banks in Henan province should have, but don’t.

The farmers and the self-employed who just don’t get their money aren’t the only Chinese who are angry about money at the moment. “Payment boycotts” are currently taking place across the country. Many Chinese who bought apartments that have not yet been built in recent years no longer want to pay the installments. The reason: The construction of the apartments is still delayed.

“Payment boycott” breaks out across the country

Calls to stop payments have been trending on the country’s social forums over the past weekend. It didn’t take long for the algorithms and the army of censors to scrub the web clean again. But one thing is clear: China’s real estate sector is increasingly threatening to become a social problem.

The industry has been considered overheated for years. With the Chinese having no choice but to invest their wealth in housing, more and more money has flowed into the sector. As a result, prices rose. For example, anyone who bought a three-bedroom apartment in Shanghai for a mid-five-figure sum in the late 1990s is likely to be a millionaire today. Due to the high appreciations, even more money poured into the market. For property developers, this meant: more and more apartments, faster and faster. So it became customary to sell apartments that had not yet been built. Soon the construction of already sold homes was financed by the sale of new homes – typical of a pyramid scheme.

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It was fine as long as the machinery turned faster and faster. In the summer of two years ago, however, the government decided to let some air out of the overheated sector. “Three red lines” were supposed to slow down the debt-based growth of real estate groups. These stated that the ratio of liabilities to assets must be less than 70 percent, the net debt ratio must not exceed 100 percent, and the ratio of cash to current liabilities must be greater than a factor of one.

Since then, the sector has faltered – above all the second largest real estate group in the country, Evergrande. Overall, at least a fifth of all businesses in the industry are likely to be affected. This in turn means that bonds of almost 90 billion US dollars are at risk of not being serviced – like the big company Shimao recently. This in turn affects several medium-sized and smaller banks.

Xi Jinping could distract from the problems with a more aggressive foreign policy

It is not yet certain whether the insolvency of the banks in Henan has anything to do with the turbulence in the real estate sector. But most likely it is. Small banks have probably invested customer money in risky bonds from real estate companies. At the same time, they give a foretaste of what can happen in the event of an uncontrolled crash.

All this comes at the worst possible time for the country’s top leadership. President Xi Jinping plans to confirm his third term in office early next year. It is a break in the country’s political history, as presidential rule since Mao’s death has been limited to two terms. “Avoiding a hard landing of the sector should therefore be a high priority,” said Zhu Guangyao, the country’s former vice finance minister.

To what extent all this will affect the global economy is unclear. First of all, the Chinese banking system is not as internationally intertwined as the American one. Concerns about a Chinese “Lehman catastrophe” miss the point. But both a soft and a hard landing of the sector have an impact on the global economy. Demand for commodities falls as China’s real estate sector falters. Finally, domestic problems could prompt Xi Jinping to divert attention with a more aggressive foreign policy.

Tensions around Taiwan have been rising for weeks. Chinese fighter jets are increasingly entering Taiwan’s airspace. Speaker of the US House of Representatives Nancy Pelosi has announced that she intends to visit the island in the near future. The newspaper Global Timesknown as the mouthpiece of the Communist Party, called this “a huge historic mistake”, the State Department spoke of a “malicious provocation”.

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