Por four decades, real estate development has accounted for a third of the growth rate of China’s gross national product (GNP). The construction boom, driven by the expansion of cheap credit, has seen housing prices double on average over the past fifteen years. In 2019, investor euphoria was at its height. The share of real estate in household wealth was then 70%. The illusion of wealth created by the continued rise in house prices encouraged investors to take increasing risks. Investments became speculative in a market where more than 20% of new homes were empty.
In this context, the accumulation of debt by Evergrande, the country’s leading real estate group, looked more and more like a Ponzi scheme: the group repaid its debt from advances paid by new customers. Nationwide, the accumulation of bad debts in the sector reached 228 billion euros in 2021, up 18% compared to 2020. Real estate debt accounted for half of GNP in 2021 – that is, by comparison, twice the size of the German economy!
All the elements of the outbreak of the crisis are present. All that was needed was an exogenous shock to trigger it. According to the economist Hyman Minsky (1919-1996), famous for his analyzes of economic crises, this shock (the “Minsky moment”) generally results from the intervention of the central bank. But in the case of China, the origin of the shock is quite unexpected, since it emanated directly from the highest peak of the state…
In August 2020, the Chinese President, Xi Jinping, decided to stop speculation by imposing the “three red lines” to real estate companies: limitation of the assets to liabilities ratio, reduction of the net debt to equity ratio and constitution of liquid reserves. The publication of these three lines marks the changeover, the “Minsky moment”, of the market. In 2022, half of the companies in the sector still cannot meet the three criteria. As for the households that are still solvent, there is no longer any question for them of paying the slightest advance to the promoters, because confidence is well and truly broken.
Supply and demand at half mast
In 2022, sales collapse by 22% and new home prices fall by 1.4%. The real estate debt burden is increasing and the crisis is spreading to the entire economy in a situation weighed down by the zero Covid health policy. Chinese stock markets are stagnating after the CSI 300 index fell 25% on the Shanghai Stock Exchange at the start of the year. Faced with this slump, the central bank is granting property developers one year in mid-November to comply with the regulation of the three red lines. A costly respite for banks, whose share of loans allocated to property developers represents nearly 26% of the total amount of loans granted. So far, massive interventions by the “lender of last resort” state have had little effect. The supply of housing has decreased despite the mobilization of some 140 billion euros in aid and the regular reductions in short and long rates. On the demand side, projects are no longer finding takers.
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