Crisis behind the Great Wall
China, home of the red dragon, which contributes about one-fifth of global GDP, is experiencing an economic collapse. The Chinese real estate market, once regarded as having authoritarian security and being almost risk-free as an investment, is collapsing like a house of cards. It appears like another Indian neighbour is imploding, with businesses defaulting on loans worth billions of dollars, societal turmoil on the rise, and stock markets in freefall.
As we know, China is an agrarian turned manufacturing economy. China had a rise in manufacturing setup across industries and products not long after the 1990s. establishing itself as a market leader in the manufacturing and export of goods like laptops, air conditioners, toys, solar panels, medical equipment, and the list goes on. As a result, China experienced widespread urbanisation; today, more than 63% of the country’s population lives in urban areas, up from less than 30% in 1991. As a result, there was a high demand for homes in metropolitan areas.
Many new Chinese real estate developers entered the market in the early 2000s to meet the fresh demand of homebuyers. They initially took on debt to increase the portfolio size of their residential holdings. Chinese citizens primarily used mortgages obtained from banks to purchase homes. As a result, mortgages on homes made up more than 20% of the assets held by banks. This debt, which at first glance seems harmless, would later have a cruel impact on the financial industry.
Let’s look at the market side. How did the Chinese real estate market work at that time? Chinese real estate is far larger than that of India and has a greater impact on the country’s economy because:
- In just 2020, it generated almost 30% of China’s GDP, which is equivalent to about 10% of India’s GDP.
- More significantly, the real estate market accounts for over 70% of the nation’s household wealth.
You might be curious as to why this is the case in a place like China. simply because there are no other investment opportunities. The Chinese stock market is known for being risky, and CCP’s (Chinese Communist Party) intervention makes it even worse. For instance, in 2021, the $1 trillion dollar Chinese education sector lost 80–90% of its value after the government announced new regulations that included a ban on any for-profit education or test prep companies. Additionally, cryptocurrency is completely barred, leaving a saver with just two options: banks, which frequently lend to real estate companies, or the real estate market itself.
Now, how did the iceberg got hit? What went wrong with china? We know that, due to supposedly high consumer demand, Chinese developers built properties on a very huge scale, which now seems to be the reason for the whole facade. To put this in perspective, the US and Europe, built around 3 million houses every year, however, China, which was already more urbanised, built 10 million houses each year at the time.
Naturally, demand couldn’t keep up. Properties eventually became expensive for purchasers due to bubbled-up prices, and there were just fewer buyers overall. In addition, there was the Covid outbreak, and when one’s survival is in doubt, one would not even consider purchasing a home. The “Zero Covid Policy” and the city-wide lockdowns imposed by the government severely slowed down China’s economic activity. As a result, home sales plunged by a sharp 41%, falling even lower than in the years 2008 and 2014.
This demand-supply imbalance tore down builders and developers. Now there are more than 65 million unoccupied properties waiting for buyers. There are around 50s of, so-called “Ghost Cities” in china, just lying unoccupied in the nation. Home sales in China have decreased by about 60% over the past year, and hundreds of thousands of consumers are engaging in a “mortgage boycott” refusing to make mortgage payments on incomplete housing projects.
Due to this, a lot of businesses adopted a fairly unorthodox or perhaps even very traditional strategy, using the barter system. As seen in the advertisement above, a company called Central China Management requested that homebuyers trade in their mortgage payment obligations for catties of garlic; one catty weighed 500g and was valued at 5 Yuan (3 times the market price). Other businesses ran similar campaigns where they would trade in their dues for things like automobiles, agricultural crops, food grains, etc.
Consumers and economic demand are, without a doubt, essential to the functioning of the modern economy. The customer is in worse shape than they’ve ever been in China. The consumer confidence index for China dropped from 113.2 in March to 86.7 in April 2022, which is the lowest reading since the index’s inception in 1991.
China, being a one-party state, the responsibility for stabilization and revamp of the economy lies with China’s government. Which is not playing its part up to the mark, and also, is just adding fuel to the fire by imposing terrible regulations in the name of “zero covid policy” like lockdowns, the requirement of negative covid test within 72 hours to go to a mall or a restaurant, etc. This has brought down consumer spending levels significantly and as we know “one person’s expenditure is another person’s income”, therefore this is having a spiral effect on the chinese economy. To continue the analogy, now it is in the hands of CCP to tame this red dragon or lose it.
Author : Arab Kansal
Illustration By : Katyayani Kaushik
References :
Wuhan University of Technology, Z-score Model on Financial Crisis Early-Warning of Listed Real Estate Companies in China: a Financial Engineering Perspective
Chinese Government (CCP), Three Red Lines Model
Chinese realtors accept garlic, and watermelons for a down payment on homes