A Just over a year ago, a Chinese property developer largely unknown to the outside world said his cash flow was under ‘enormous pressure’ and he might not be able to repay some of his exorbitant debts $300 billion (£275 billion).
Today, that company, China Evergrande Group, is only too well known as the poster child for the country’s economic troubles. Home prices in China have fallen in each of the 12 months since Evergrande’s now prophetic warning, with Xi Jinping’s government now preparing to dump billions of dollars on a property market that experts say looks like more and more to a giant Ponzi scheme.
New home prices in 70 Chinese cities fell 1.3% year-on-year, worse than expected in August, official figures showed, reflecting a turbulent 12-month period in which China’s housing sector fell from an unstoppable engine of growth and prosperity to being the primary threat to global economic power.
Nearly a third of all home loans are now classed as bad debt – 29.1%, up from 24.3% at the end of last year, according to a Citigroup study this week – once-safe public property developers being the cause of the increase.
The crisis at Evergrande, then China’s second-biggest property developer, has spread through the industry to the point where the government’s pledge this week of 200bn yuan (£26bn) to boost investment was judged by analysts to be well below what was necessary.
Rating agency S&P said at least 800 billion yuan would be needed – or even 10 times more in the worst case – to save a property market in which prices have fallen, sales have fallen, developers have made bankruptcy and the buyers staged an unprecedented crisis. and the expansion of the mortgage boycott in protest at largely prepaying for homes that were not completed.
The market is experiencing a total collapse in confidence, analysts say, and only government intervention can save the day.
About 2 million off-plan homes remain unfinished across China, according to a rough estimate from S&P. This figure will increase if sales continue to decline and developers continue to run out of money to complete their projects.
“China’s housing downturn has turned into a crisis of confidence that only the government can solve,” S&P said. “If the drop in sales pushes more developers into troubled territory, things will get worse. Struggling businesses will halt the construction of more pre-sold homes, further shaking buyer confidence. Our rough estimate is that around 2 million unfinished homes pre-sold by Chinese developers are now in limbo. It shattered confidence in that market.
For years, the pre-sale of homes – mostly apartments in tall buildings and newly decorated urban villages – provided developers with cash and, in addition to borrowing on an epic scale, allowed them to buy more of land and continue to build. In 2021, around 90% of homes were sold off-plan in China.
But Xi’s decision two years ago to crack down on ‘reckless’ lending to developers starving for their funding and, when the music stopped, it appeared they couldn’t finish the homes they were looking for. they had already taken money because they had spent it to buy the next parcel of land or project.
In short, it looks like a Ponzi scheme where money taken from new investors is used to pay off existing customers in an ever-decreasing spiral until collapse. This is even how the sober pages of the Economist see it.
George Magnus, associate at the China Center at the University of Oxford, said the Chinese market was not quite a classic Ponzi scheme in the style of the notorious Bernie Madoff scam that came to light after the global financial crisis, but it was very similar.
“Developers are collecting huge sums of money from customers to basically fund the purchase of the next building projects. It just goes on and on before it gets to the size it has,” Magnus said. “It’s not strictly a Ponzi in the sense of asset management, Madoff style, but they’re basically using client money to fund the next project, so yeah, that’s the standard definition of what this is. means.”
The real estate market represents between 20% and 30% of China’s gross domestic product. That’s a huge proportion compared to other major economies, and it’s partly thanks to the country’s investment-driven economic model that has prioritized construction. As a result, it has spawned a hitherto blind faith in land values, which have risen more or less evenly over the past two decades or more.
But with repeated shutdowns also depressing the market, the long-held belief that prices can only go up is starting to fade. According to brokerage and investment group CLSA, Bloomberg reported last week that this could lead Chinese households to withdraw 127 billion yuan from their property over the next nine years and invest it in other investments such as stocks, bonds and wealth management products.
“People are losing faith in the pre-sales model,” Magnus said. “It’s a reboot of the Chinese mortgage market… the sacred asset of property. China’s fabulous rising middle class is not in great shape with the lockdowns either.
The situation presents a major challenge for the Xi government, especially with the all-important party congress to be held in October, when the president will seek to be the leader for as long as he wants.
But although his government is pushing for the restructuring of failing developers such as Evergrande and hopes to spread the debt burden among state-owned enterprises, banks and local governments, the pain is likely to fall on ordinary Chinese – just like on ordinary investors. when a Ponzi scheme ends up collapsing.
Anne Stevenson Yang, co-founder of US firm J Capital Research and an expert on China, said the Beijing regime was more interested in protecting state-owned companies, institutions and billionaire business owners than owners. – and that would inform its response to the crisis.
“There’s what they can do and there’s what they will do,” she said. “What they can do is transfer money to households, for example by providing apartments, allowing people to live in places where mortgages are not paid and increasing pensions so that people have confidence and spend again.
“But of course that’s not going to happen. China’s political system is not built around individuals, it’s built around corporations, it’s the voters. The political system works through them.
“The real estate market was not designed to be a Ponzi scheme – a Ponzi scheme has to be designed. But this is an investment bubble. And the bubble is over.
