China’s Evergrande Crisis Threatens Xi’s “Chinese Dream”
Chinese property developer Evergrande, now the world’s most indebted real estate group, has found itself in a liquidity crisis as they announced last month they will be unable to pay outstanding debts. As China’s second-largest property developer, the dialogue surrounding the company suggests Evergrande is “too big to fail” and Beijing must intervene if they wish to avoid another global financial crisis. However, Beijing has been reluctant to act and Evergrande’s stock price has plummeted 85 per cent this year alone. Its potential collapse cannot be ignored and may have disastrous consequences for the Chinese property market and economy as well as flow-on markets. This crisis also shines a light on China’s increasingly opaque debt crisis and reliance on debt-financed fixed asset investment to sustain economic growth, which has become increasingly difficult to hide.
What is the Evergrande Crisis?
China Evergrande Group is a Fortune Global 500 enterprise founded in 1996 by Chinese billionaire Hui Ka Yan well-known for their real estate development ventures. Its real estate group owns more than 1,300 projects across 280 cities, making it the second-largest property developer in China. The broader Evergrande Group extends its investments into electric vehicles, media production, theme parks and sporting clubs and facilitates the creation of over 3.8 million jobs each year.
Evergrande has now found itself in over US$300 billion (AUD$408 billion) of debt linked to its heavy reliance on borrowing for growth and has warned investors it is likely to default on outstanding loans. Residential property sales were down approximately 30 per cent in September 2020 compared to the year earlier, which indicates Evergrande will be unlikely to increase profits as China’s residential property demand enters an “era of sustained decline”. The company has been scrambling to sell assets in order to repay debts, but forecasts predict this is not enough to cover repayments. Analysts have criticised the lack of transparency surrounding Evergrande’s complex company structure and lack of sufficient information surrounding assets and liabilities.
According to Goldman Sachs estimates, Evergrande holds approximately 2 trillion yuan (AUD$422 billion) in assets, equating to around 2 per cent of China’s GDP. More broadly, real estate and related industries produce up to 30 per cent of China’s GDP as well as 20 per cent of the urban workforce. This raises genuine concerns that a collapse would greatly inhibit China’s economic growth and cause a shockwave in economies across the globe.
What is the potential fallout?
Evergrande is not the first Chinese conglomerate to come under fire for its reliance on “debt-fuelled investments” to support high economic growth targets. The last three years have seen various state-owned companies and conglomerate Dalian Wanda encountering similar challenges. However, Evergrande’s size will pose the largest threat to China’s economy in years. While some have declared the crisis to be China’s “Lehman Brothers” event, Beijing’s stronghold on domestic banks and key financial actors suggests such a crisis can be avoided.
Beijing appears primarily concerned with domestic stability and is reluctant to offer a comprehensive bail-out. The People’s Bank of China recently opted to inject cash into the economy to maintain liquidity and “the healthy development of the real estate market”. Local governments have similarly been warned to prepare to mitigate the effects of any fallout by limiting regional jobs losses. Beijing has also intervened to avoid social and economic tragedy in response to the 2015 and 2008-09 stock market crashes. Chinese President Xi Jinping’s recent political campaign promoting “common prosperity” appears to suggest his focus in navigating the crisis will be on homeowners and construction workers rather than shareholders and investors. Foreign investors have raised the concern that if Evergrande fails, they will be low-priority creditors, which has further discouraged investment activity.
Without explicitly referencing Evergrande, the Reserve Bank of Australia warned Beijing’s rash intervention or continued bailouts may lead to “entrenching perceptions of implicit guarantees”, which may send a negative message to other major economic players. Comparatively, acting too slowly will likely lead to more severe financial stress in the future. The Global Times, which regularly acts as the voice of the Chinese Communist Party, struck back at criticism and suggestions of intervening in the ongoing crisis by stating: “China will not change its own pace of economic adjustment for the sake of external pressure or placating the market”.
In a worst-case scenario, insolvency may lead to Evergrande being wound-up which is likely to result in a domestic economic crisis. However, Bloomberg economist David Qu suggests a global economic crisis is unlikely. Even in the absence of a global crisis, Australia’s reliance on a healthy Chinese economy as our largest trading partner would still result in a big hit to our primary export market.
China’s lack of debt transparency
This incident raises further questions surrounding China’s increasingly opaque debt crisis which Beijing depends on to maintain economic growth and increase household net worth. Perhaps more concerning than the property market bubble is China’s local government debt of over US$8.2 trillion arising from an “infrastructure arms race” that Xi is desperately trying to hide. Unlike many advanced economies, China lacks an independent government statistical agency which raises further concerns regarding a lack of economic transparency.
As further Evergrande defaults are looming and China is suffering from a resurgence of COVID-19 infections, Beijing’s glorified economic recovery appears in jeopardy. If China continues down this track of ill-advised reliance on exorbitant debt while failing to disclose the full-extent of their economic troubles, future economic downturn could come as a surprise to global markets. Where there is smoke, there is fire, which suggests Beijing will not be able to hide a recession indefinitely.
Chloe Marriott is currently studying a Bachelor of Laws (Hons) and a Bachelor of Global Studies at Monash University in Melbourne, Australia and has engaged in study abroad programs at the University of Leeds (United Kingdom) and Monash University Malaysia. Chloe is the Young Diplomats Society's regional correspondent for East Asia and holds a strong interest in the future of global leadership and the cultural and historical complexities of the region.