Crisis in China’s property market threatens its broader economy

When Zhang Fang’s mother turned 75 and Beijing’s hot summers were getting too much for her, he decided to buy an apartment on the coast about 700km away for herself and a live-in carer. He found a two-bedroom unit on the sixth floor of a building in a large project built by one of the most prominent developers in the region and paid the full price of 350,000 renminbi (€45,000) upfront.

Residents had already moved into other parts of the development and the roof was already on the building where he had bought, although there was no water or electricity connection. The developer said the apartment would be ready to occupy within a year.

“Right after the planned move-in date, I kept getting text messages and phone calls from the developer telling me it was delayed. A year later, a senior executive from the company went to jail for bribing government officials and I couldn’t get in touch with the developer. Then I heard that the company was bankrupt,” he said.

Five years after he last heard from the developer, Zhang’s apartment remains unfinished, with no water or electricity in the building and nobody taking care of it. The authorities stepped in to sell off the undeveloped land in the project as bad assets, but nobody wanted to take over the unfinished building with his apartment.

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“I can’t do anything. I can’t get my money back and I can’t move into that place,” he said.

Chinese people prefer to buy rather than rent and 90 per cent of households own their own home, compared to 70 per cent in Ireland

Zhang is among hundreds of thousands of people affected by a crisis in China’s property market that has driven some of the country’s biggest developers to the verge of bankruptcy. The knock-on effects have impoverished local governments, hit China’s huge shadow banking sector and threatened to push the world’s second biggest economy into a deflationary spiral.

[ Deflation prompts renewed fears over strength of Chinese economy ]

This month saw Country Garden Holdings, one of China’s biggest private developers, miss interest payments on two offshore bonds and suspend trading in a dozen onshore bonds. Sino-Ocean, a state-backed developer, said it missed $20.94 million in interest payments and suspended trading on 6 per cent guaranteed notes due in 2024.

Zhongrong International Trust, one of the biggest shadow banks that provide financing to developers, missed payments on more than 30 wealth management products. And the central government in Beijing was reported to be poised to allow local governments to refinance their huge, property-related debts amid fears of default.

Accelerated decline

New property sales by China’s biggest 100 developers fell by 28 per cent in June compared to a low base a year earlier and 27 companies reported declines of more than 50 per cent, according to Shanghai-based property data and analysis provider China Real Estate Information Corporation (CRIC). The decline accelerated in July, with private developers suffering more than state-owned enterprises.

The opening up of China’s economy and the movement of hundreds of millions of people from the countryside into the cities drove a massive expansion of the property sector from the 1990s to the point where property-related industries now account for up to 30 per cent of economic output. Chinese people prefer to buy rather than rent and 90 per cent of households own their own home, compared to 70 per cent in Ireland.

The state owns all the land in China and local governments lease it for 70 years to developers for residential use and 40 years for commercial use. Land sales have become a crucial source of revenue for local governments, which do not levy property taxes, and the downturn has left many of them struggling to finance their operations.

Developers often sell properties before they are completed and buyers often pay most or all of the full price in advance. Until recently, state-owned developers and private developers each accounted for about half of the market.

The booming property market helped China to avoid a recession following the global financial crash in 2008 but by 2016 it had all the symptoms of a bubble.

“Everyone was talking about house prices and the prices were growing so fast. Everyone thought if they don’t buy a place now, they could never afford to buy one in the future. I thought if I don’t buy now, it will be too late and I will have to pay more,” said Jin Xizhu.

She could not afford to buy an apartment in the centre of Beijing so she went to the outskirts of the city, choosing an apartment within an ambitious development including a theme park, an indoor tropical botanical garden, an artificial ski slope, a theatre, a conference hotel and a shopping mall. She had to pay 50 per cent of the total price as a down payment but the project had the right certification to guarantee her a bank loan to cover the rest.

Soon after she made the payment, however, the bank said it was no longer able to offer her a mortgage and she realised that the development was in trouble. Seven years later, it is still unfinished and she has been unable to move in.

Controlling prices

“This project is dead. We have a total of 300 households, of which 100 have paid the full amount and 200 have paid the down-payment. But none of the 200 families could get a bank loan and that’s lucky. Otherwise we would still have no place to move into, but we would have to pay the loan every month,” she said.

Starting in 2017, Xi Jinping’s government introduced a succession of policies aimed at controlling house prices, declaring that “homes are for living in, not for speculation”. Second homes, for example, now required a higher minimum deposit and carried a higher mortgage rate and could not be put back on the market for at least five years.

The moves were part of a strategic plan to shift investment away from property into manufacturing, particularly in green technology. But even as more apartment buildings stood empty, local governments continued to lease land and developers continued to borrow from shadow banks to fund new building.

...the industry now faces an extremely difficult situation. In just six or seven years, between 2017 and now, China’s property sector has ground to a halt

—  Property industry insider

In August 2020, alarmed by the deepening indebtedness of many big developers, the authorities set out new regulatory guidelines called the “three red lines”. Developers were supposed to have a liability-to-asset ratio of less than 70 per cent, a net gearing ratio of less than 100 per cent and a cash to short-term debt ratio of at least 1.

If they fulfilled all three criteria, companies could increase their debt by up to 15 per cent but a breach of each criterion would reduce that margin. The policy succeeded in deflating the property bubble – in fact, it was too successful for its own good.

“The impact on the entire property industry is that there is no property speculation and the housing price has been brought under control. But if you add other factors such as an economic recession, and three years of zero Covid, the industry now faces an extremely difficult situation. In just six or seven years, between 2017 and now, China’s property sector has ground to a halt,” one industry insider told The Irish Times.

In 2021, Evergrande, which three years earlier had been the most valuable property company in the world, faced financial collapse as it defaulted on some of its debts. Country Garden’s missed interest payments this month raised fears of a similar event, but in fact many of China’s big developers have been in trouble for a number of years and their problems are deepening.

[ China Evergrande files for protection in US court as part of €29.1bn debt overhaul ]

The government has resisted bailing out the developers and has ordered them to liquidise assets to raise funds to complete unfinished buildings where the apartments have already been sold. If private developers are unable to complete the projects, state-owned companies can sometimes step in to take them over.

Enormous impact

The impact of the property crash is enormous, affecting everything from local government revenues to the market for basic raw materials like iron ore, oil and asphalt and suppliers of everything from lamps and furniture to household appliances. Zhongrong’s missed payments have highlighted the risk to China’s $3 trillion shadow banking sector, which has financed much of the country’s property industry.

China’s real estate overcapacity means that the market has a lot of inventory for sale and population trends mean that in future we will not need so many houses. China’s property market as a whole is past its peak

—  Industry insider

The authorities have announced a number of measures in recent weeks aimed at stimulating demand among homebuyers, including lower interest rates and looser lending rules. None of them will succeed, according to the industry insider.

“It’s useless. It can’t be stimulated,” he said. “China’s real estate overcapacity means that the market has a lot of inventory for sale and population trends mean that in future we will not need so many houses. China’s property market as a whole is past its peak.”

The government has other options, such as building more social and affordable housing and funding urban renewal projects. But with the economy stalling, the collapsing housing market increases the risk of deflation, which would make the debt crisis deeper.

Meanwhile, Zhang has given up hope that his mother will ever move into the apartment he bought for her. He consoles himself that his loss was painful but not catastrophic and he has learned a bitter lesson.

“We can do nothing but just accept this and move on,” he said. “From this experience, I’ve learned never ever to buy an apartment. Just rent one and avoid the risk.”