China’s economy is still shaken. While half the world raises interest rates to tame inflation, China has a much bigger problem than inflation: the real estate sector (a third of the country’s economy) is crumbling in several areas, endangering social stability. Proof of this is , a movement that is gaining strength and that can accelerate this correction process in housing and generate an implosion in bank balance sheets, unleashing a total crisis in a country that has been growing nonstop for decades. A full-blown crisis could lead to increased social instability, probably Beijing’s greatest fear.
China is trying to revive a real estate sector that is somewhat paradoxical, since it was the Chinese leaders themselves who were in this sector to prevent the bubble from continuing to grow in size and becoming uncontrollable. Beijing imposed restrictions on credit to promoters (in addition to other measures), causing the default of several of these companies.
Now the economic situation is deteriorating faster than expected, threatening to turn this controlled detonation into a fatal blowout for China’s economy. The boycott of thousands of families, who refuse to pay their mortgages because real estate projects are not moving forward, is exacerbating the problem.
“Chinese real estate developers are desperately trying to recover from prolonged lockdowns due to covid-zero policies, but the mortgage boycott is making things very complicated. , home buyers have taken all the spotlight in the real estate sector The reason is that developers depend on financing prior to the sale of homes (in Chuna a large part of the properties are sold before construction begins), but regulations and restrictions, as a result of covid, have led to the rupture of this monetary or capital chain”, explains Alicia García-Herrero and Gary NG, economists at Natixis in a special report on Chinese real estate.
Avoid an uncontrolled outburst
Now, Beijing is trying to prevent the implosion from spiraling out of control with fiscal and monetary policy. This Monday, the People’s Bank of China (PBC, the Chinese central bank) carried out its first interest rate cuts since last January due to the slowdown in the recovery of the national economy and the bad data that the housing market. The monetary institute confirmed the reduction in 10 basis points of the medium-term loan facilities (MLF) to one year and of the reverse repurchase agreements (‘repos’) to 7 days, placing both types at new historical lows.
The ‘repos’ serve the BPC to inject short-term liquidity into the banking system, while the MLF are its main tool for financing banks and also serve as a guide for reference interest rates, called LPR (reference rate for credits).
Evans-Pritchard, an economist specializing in China at the British firm Capital Economics, clarifies that the cuts announced today will not imply a notable change in liquidity conditions because interbank rates are already below those of the PBC, so the entities do not present a great demand for financing from the central bank.
The expert does now anticipate a reduction in the LPR (its next update is scheduled for next Monday, August 22), which will lower the interest on existing loans and the price of new credits, thus alleviating part of the pressure faced by the most indebted companies.
Despite everything, Evans-Pritchard believes that interest rate cuts may not be enough to revive the credit rally, due to the “loss of confidence in the housing market and the uncertainty caused by the constant disruptions caused by the China’s ‘covid zero’ strategy”.
Experts at Oxford Economics comment in a note that they “believe that additional funds will be sought to support the completion of unfinished houses. Indeed, the July Politburo meeting communiqué highlights the need to stabilize the housing market and ensure the delivery of housing. We believe these efforts are unlikely to come directly from the central government. Instead, authorities are likely to ask local governments, banks and property developers to coordinate and ensure housing projects are completed unfinished”.
A growing problem in housing
The data handled by Natixis is conclusive: the average delay in the completion of homes has reached 14 months. There are some 821,000 units with this problem and the mortgage exposure is 735 billion yuan (107 billion euros) or 2% of total mortgages, with an average down payment of 30%, according to public databases.
In China, it is very common for home buyers to start paying off their mortgages before the home is built, thus making households an important source of finance for developers beyond the capital markets or private financing. banking. According to the public database We Need Home, the average delay of projects has reached 14 months due to the fact that real estate developers are running out of liquidity to continue buying materials and the rest of the costs that a real estate project entails.
Since this is only a portion of the unfinished projects, it is important to estimate what the maximum loss would be if all the unfinished projects end up in mortgage boycotts. “Our estimate is 2.3 trillion (about 330 billion euros) or 6% of total mortgages. The mortgage boycott can have a ripple effect on other stakeholders, namely property developers, supply chains, banks and the government. Credit polarization and the preference for home purchases will continue to negatively affect private developers and/or those in default, since they are behind almost all cases of mortgage boycotts, such as Evergrande, SUNAC and Greenland”, explain the Natixis experts.
Chinese developers most exposed to mortgage boycott
Furthermore, only 32% of mortgage boycott cases come from unfinished projects whose completion date has already passed the promised delivery date. “In other words, homebuyers have lost confidence in the completion of new housing projects and may prefer homes that are already completed. The latter does not bode well for the sector, as the role of pre-sales in financing Chinese developers has continued to grow over time, reaching 86% of property sales in the last four years (2018-2021).”
With the poor market sentiment, house price growth has slowed and home sales may even rise by more than 30% in 2022, French bank experts warn.
A wave of defaults
All this multiplies the risks of non-payment of the promoters. Supply chains, ranging from materials (upstream) to appliances (downstream) are all potential victims. Any additional effects of the mortgage boycott will also worsen the quality of assets and the solvency of banks. “The non-performing loan ratio (NPL) for loans to real estate companies is likely to exceed 4% by the end of 2022 compared to 0.7% in 2019.”
Alicia García-Herrero assures that Chinese regulators are preparing for any deterioration in the quality of the banks’ assets, and one of the solutions is to create rescue funds. “In more general terms, it can be said that the mortgage boycott is only the tip of the iceberg in China’s financial stability, given its dangerous link with social stability, especially since real estate constitutes 59% of household wealth” .
The Chinese government will mobilize state resources to ensure the proper delivery of unfinished housing units, thereby reducing potential mortgage boycotts. But even so, the big problem that the mortgage boycott reveals is the lost confidence, which will not be easily recovered. With the endless mobility restrictions and regulatory changes, households prefer savings to real estate investment, they assure from Natixis. This is something difficult to reverse and that affects the entire economy.
BCA Research economists argue in a note published on Tuesday that “given that consumer sentiment is extremely depressed, without a large-scale cut in mortgage rates (which would also not be a guarantee of success) and direct fiscal transfers to consumers to boost household income, an imminent or strong rebound in home purchases is unlikely. Our China investment strategists continue to recommend a cautious stance towards Chinese risk assets.”
Facebook Comments
Disqus