Real estate will defeat Beijing, again

Residential buildings under construction are seen at Evergrande Cultural Tourism City, a project developed by China Evergrande Group, in Suzhou’s Taicang, Jiangsu province, China September 23, 2021. REUTERS/Aly Song

HONG KONG, July 21 (Reuters Breakingviews) – You lose some, you lose some. President Xi Jinping’s war on property speculators, which kicked off in 2020, was a good idea at a bad time. As with prior attempts, the government has bitten off more than the economy can currently chew. Now buyers are in open revolt and the market is tanking, putting stimulus – and stability – at risk read more . Capitulation by China’s government looks inevitable.

Real estate contributes up to a third of economic output; state media estimates 70% of citizens’ financial assets are parked in housing. That’s unsurprising. For decades, Chinese property has been a risk-free bet on appreciation, where returns were constrained only by borrowing capacity. With house prices in some cities equivalent to over a decade of annual wages, however, economists fear mortgage payments deduct from consumption and deter family formation.

An attempt to cool the market in 2014 and 2015 did so much collateral damage that officials quickly reversed their stance. That reinforced suspicions that developers had accrued so much systemic risk that they had become invulnerable to discipline, and speculation resumed. So Xi, a disciplinarian, tried again, implementing a “three red lines” policy in 2020 that locked leveraged-to-the-hilt companies like China Evergrande (3333.HK) out of credit markets.

Unable to refinance and facing softening sales, weak developers defaulted on contractors, which stopped building. That prompted irate buyers in multiple cities to threaten to halt mortgage payments for unbuilt properties, a movement that’s hard to suppress. Analysts estimate between 500 and 600 million square metres could be on hold, equivalent to 10 Manhattans. With nearly one-fifth of employment-age youth out of work, Beijing is hurrying fresh infrastructure spending to create quick jobs, but the benefits will be cancelled out if nobody resumes building these incomplete apartments read more .

Average construction costs per square metre are around 4,000 yuan per official estimates, implying at least 2 trillion yuan ($300 billion) is needed to deliver the unbuilt projects to their owners, who will then resume making payments to their nervous bankers. Given the problem has been publicly metastasizing for a year now, some might wonder why officials haven’t waved their financial wand already.

There is no magic wand. First, any rescue bails out entities and people Beijing has been trying to squeeze, namely irresponsible developers and speculators who bought non-existent apartments on credit. This will reinforce the moral hazard Xi has been trying to eradicate. Second, the institutions best positioned to take over the projects and fund their completion – local governments, state developers, banks and government asset managers – are under financial stress themselves due to wider economic malaise. That’s why they have been slow to step in. The central bank, which is still attacking the country’s vast stack of bad corporate debt and has to worry about capital flight as the dollar surges, has refrained from sharply lowering interest rates to spur growth monetarily.

Finally, it’s hard to catch a falling knife. Funding the existing projects will end the current boycotts but won’t necessarily revive demand in a sliding market that hosts enough empty apartments for 90 million people, per Rhodium Group estimates. As developers’ cash flow woes worsen, they could put yet more projects on hold, requiring yet more intervention.

Indeed, the central government has already eased some lending restrictions to the sector. Local officials, who rely on land sales to cover their budgets, are standing on their heads trying to revive buyers’ interest, without much success. Slowly but inexorably, Xi is getting pushed back across his three red lines. The longer he takes to admit temporary defeat, the more he might have to surrender.

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(The author is a Reuters Breakingviews columnist. The opinions expressed are his own.)

CONTEXT NEWS

China’s Premier Li Keqiang said on July 20 that the recovery in the Chinese economy is not yet firmly established and “painstaking” efforts are needed to stabilise it, according to state media.

Homebuyers in over 50 cities have threatened to halt payments on mortgages for properties they paid for in advance that have yet to be completed by developers short on funding. Censors have been moving to block images and conversations on social media related to property protests and mortgage boycotts, Reuters reported on the same day.

The asset manager of Henan province said on July 19 that it would set up a fund for its property sector in cooperation with Zhengzhou Real Estate Group. Zhengzhou, the provincial capital, was the site of protests by depositors who claimed several rural banks had refused to let them withdraw their funds.

(The author is a Reuters Breakingviews columnist. The opinions expressed are his own.)

Editing by Antony Currie and Pranav Kiran

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