Evergrande crisis: China’s real estate giant becomes a threat to the global economy

Dhe story doesn’t repeat itself, but it rhymes. This dictum, ascribed to Mark Twain, is being used again in the financial markets. 13 years after the demise of the American investment bank Lehman Brothers, which then triggered a global meltdown in the financial markets, many observers see a kind of Lehman moment in China.

Here, too, there is a billions in imbalance in the real estate market, here too high loan amounts are involved. And nobody really knows who has lent money to whom and what happens if the central player falls. Whether more lenders will then fall and there will be a global loss of confidence that will send markets around the world in depth.

At the center is the gigantic real estate group China Evergrande. In the past few decades it has financed its aggressive expansion through debt. And has apparently taken over. The equivalent of more than 300 billion dollars now weighs on the balance sheet. Evergrande is already having problems transferring the interest, let alone paying back the loans. The group’s construction sites are also dormant because there is no longer any money to finance craftsmen or building materials. Dozens of people storm the company’s sales rooms every day and ask for the money back that they paid as a down payment for their apartments.

The first contagion effects can be seen

The giant’s shares have plummeted by more than 80 percent this year, while bonds are trading at less than a third of their face value. In such a situation, it does not help to build trust if six high-ranking managers illegally monetize their own Evergrande papers prematurely, as the company announced on Saturday. The executives face a “severe punishment”.

The supposedly tough line is understandable, as the first contagion effects can already be observed in other companies. All high-yield bonds in the People’s Republic are under selling pressure. The average return that companies with a weaker credit rating have to pay has risen to more than 14 percent. Usually the rates are only half as high. Interest rates are a sensitive indicator of trust and mistrust.

“As a systemically important property developer, a disorderly bankruptcy of Evergrande would cause trouble for the entire real estate sector,” said Shen Meng, director of Chanson & Co, a boutique investment bank in Beijing. “Debt collection efforts by creditors would panic asset sales and depress house prices. This could also lead to turbulence on the capital markets. “

Three red lines for real estate companies

Even if Beijing cannot be interested in a Lehman moment that will drag banks and stock exchanges down with it, the Communist Party has not yet intervened directly. Only the central bank became active. It pumped the equivalent of around 14 billion dollars into the financial cycle to avoid liquidity bottlenecks. Because when mistrust grows, banks no longer lend each other because nobody knows who is invested in Evergrande and how much. But if the normal credit market comes to a standstill, it will also have dramatic consequences for the real economy.

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The reluctance of the Communist Party also has to do with the fact that it was the government that kicked off the crisis in the first place. China wants to get the overheated prices in the real estate market under control. Square meter prices of the equivalent of 10,000 euros and more are being called up in booming cities. “Rising house prices are the main contributor to wealth inequality in China,” said Larry Hu, head of China Economics at Macquarie.

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In order to stop the increase, Beijing gave the housing construction companies the so-called “three red lines”. These put limits on companies’ borrowing and forced them to reduce their liabilities. Evergrande had to sell real estate at increasingly higher discounts. A fatal downward price spiral developed for the group.

Hope for intervention from Beijing

The rating agencies are alarmed. S & P’s leading credit checkers put Evergrande’s credit rating down to CC, which is the second worst score before the default. “The company may not be able to service its debt in a timely manner, which will lead to a default scenario, including the possibility of debt restructuring,” the S&P analysts write.

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The first stress test is due in the coming week. Then further interest is due. Evergrande has to pay more than $ 80 million in interest on September 23 on a bond that runs through March 2022. Another nearly $ 50 million interest payment is due on September 29 on a debt that expires in March 2024. The bonds would default if Evergrande didn’t pay the interest within 30 days.

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The central bank has already prepared the creditors for the fact that Evergrande will not be able to make the payments due, and that principal payments could also fail. Banks like the Swiss UBS are still reassured by the fact that Evergrande only represents 6.5 percent of all Chinese real estate bonds. The government in Beijing will certainly intervene if the going gets tough. There were such appeasements before Lehman went under. And they turned out to be wrong in retrospect.

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