At the beginning of the decade, the Chinese government decided to limit speculation in the country’s real estate market as housing affordability decreased dramatically.
The slogan “Houses are for living in, not for speculation” became a major part of the policy implemented by the government. Regulators lowered real-estate-related debt thresholds resulting in a property market squeeze that negatively impacted the economy. Also, the country’s economic underperformance was reinforced by severe lockdowns which were a part of the zero COVID-19 measures.
Faced with the consequential unprecedented slowdown in 2022, the Chinese government responded by easing property market regulations. To revitalize the real estate industry, the government and major financial institutions developed a new set of policies that included sizable supplementary funding. Additionally, debt repayment periods for private real estate developers were extended to prevent mass defaults. Regardless, this was not enough to pull the real estate sector back into shape by 2024.
At the end of 2023, Moody’s downgraded the outlook for the Chinese economy from “stable” to “negative.” The debts amassed by the property sector and local governments were among the key reasons for the downgrade. Despite the government’s support, property developers, such as Evergrande and Country Garden Holdings, continued to struggle with interest payments and difficulties in completing their projects. In the case of Evergrande, these problems escalated to the point where legal action was taken against the company’s chairman.
The weight of Evergande’s recent and former transgressions implies that avoiding a default will be an uphill battle for the company. Evergrande is prohibited from issuing new bonds. This creates another obstacle to resolving its US$30 billion of offshore debt.
Additionally, the company has faced multibillion-dollar losses for three years in a row. The combination of these factors puts Evergande’s potential future recovery at risk. There is a high probability that the company may be unable to complete pre-existing build contracts worth many billions of dollars due to the cash shortage.
It is estimated an additional US$446 billion would be needed to stabilize China’s property sector and complete unfinished housing projects. As part of a government initiative to prevent further bankruptcies among developers, Chinese banks are being tasked with rescuing a deeply troubled real estate industry.
To stimulate the recovery of the property market, the country’s central bank vowed to reduce lending costs. The People’s Bank of China pledged to curb potential oncoming erratic credit growth by co-ordinating mass bank financing. However, these measures have negatively affected banks’ profitability, as their net interest margins have shrunk to unsustainable levels. This has put some of the largest banks’ revenue growth in jeopardy.
Authorities have consistently decreased reserve requirements as well as advised banks to reduce deposit rates to cool margin pressures. However, Fitch Ratings Inc. believes these measures are not sufficient to compensate for a margin slide or a decrease in the lending rate. According to Bloomberg Intelligence, banks’ profitability in China is not likely to increase in 2024, as the margin squeeze may drag down earnings throughout the year.
According to Swiss Re Institute, Chinese consumption and investment will not recover quickly due to the problems in the real estate sector. However, the institute believes the possibility of a severe financial crisis occurring is relatively small.
The likelihood of future defaults is minimized by the government deleveraging corporate and household debt as well as government spending on affordable housing projects. It is anticipated that the country will experience a 0.5 to 0.7 percentage point decrease in GDP during the new year due to low investor confidence in the real estate market, lowering the full-year growth prediction to +4.5 per cent.
On the flip side, GROW Investment Group chief economist Hao Hong believes it will take around two years to absorb the current housing inventory in the real estate market and 10 years to clear the six million square metres of inventory under construction.
This points to a slower-than-expected revival, as the process of clearing inventory and new construction could significantly delay the recovery of the sector. While speaking to CNBC, Hong suggested the country needs to find other opportunities to strengthen the economy “instead of relying on just the property sector and property investment for economic growth.”
Dmytro Konovalov has over 10 years of experience in equity research and analysis for global markets at leading international financial institutions.