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How China’s Property Developers Got Into Such a Mess

Unfinished apartment buildings at the Phoenix City residential project, developed by Country Garden Holdings Co., in Shanghai, China, on Monday, Jan. 17, 2022. The crisis engulfing China’s property sector is impacting its biggest developer, with Country Garden’s shares and bonds hammered amid fears that a reportedly failed fundraising effort may be a harbinger of waning confidence. Photographer: Qilai Shen/Bloomberg (Bloomberg)

Real estate has been the main engine of China’s economic growth since President Xi Jinping came to office a decade ago. Now the industry is in a slump, major developers have defaulted on their debts and the government is trying to organize a bailout. Economists say the intervention should be enough to hold off a disorderly crash of the property market and may even generate a slow recovery. The stakes are high, as a total collapse could undermine China’s financial system and jolt the world economy. A mortgage boycott by people angry that homes they paid for weren’t finished underscores the risk of unrest if it all goes wrong.

1. What fueled the boom? 

In 1998, China created a nationwide housing market after tightly restricting private sales for decades. Back then, only a third of its people lived in towns and cities. That’s risen to two-thirds, with the urban population expanding by 480 million. The exodus from the countryside represented a vast commercial opportunity for construction firms and developers. Money flooded into real estate as the emerging middle class leapt upon what was one of the few safe investments available, pushing home prices up sixfold over 15 years. Local and regional authorities, which rely on sales of public land for a chunk of their revenue, encouraged the development boom. This also helped the central government to meet its annual targets for economic growth, which often hit double digits.  

2. What triggered the slump?

The property craze was also powered by debt as builders rushed to satisfy expected future demand. The boom encouraged speculative buying, with new homes pre-sold by developers who turned increasingly to foreign investors for funds. Annual sales of dollar-denominated offshore bonds surged from $675 million in 2009 to $64.7 billion in 2020. Opaque liabilities made it hard to assess credit risks. The speculation led to astronomical prices, with homes in boom cities such as Shenzhen becoming less affordable relative to local incomes than London or New York. In response, the government moved in 2020 to reduce the risk of a bubble and temper the inequality that unaffordable housing can create. That touched off a cash-flow crisis for developers that was exacerbated by the impact of aggressive measures to contain Covid-19.   

3. Did the government cause the crisis? 

State officials were anxious to rein in the industry’s debts, fearing that serial defaults could ravage China’s financial system. The government began to squeeze new financing for developers and asked banks to slow the pace of mortgage lending. New borrowing metrics introduced for real estate firms proved to be a game changer. Called the “three red lines” by state-run media, they aimed to reduce reckless borrowing by setting thresholds for a developer’s liabilities, debt and cash holdings. Many firms were unable to adhere to the new rules as their finances were already stretched. Developers had some $207 billion in dollar-denominated bonds outstanding as of late 2021, accounting for about a quarter of the total from all Chinese borrowers. 

4. What happened to the developers?

Those that didn’t have enough cash to cover their liabilities found themselves in a bind. At least 18 defaulted on offshore bonds after the crackdown began. China Evergrande Group, once the country’s biggest developer, was labeled a defaulter in December 2021 after it missed payments on several bonds. Others, including Kaisa Group Holdings Ltd. and Sunac China Holdings Ltd., followed. Fears of further contagion weakened consumer confidence and roiled global markets that had long assumed China’s real estate titans would be bailed out by the government. As the crisis dragged on, it began to engulf developers that had been seen as the stronger players, such as Longfor Group Holdings Ltd. Even real estate debt viewed as safer as it was backed by the state ran into trouble.

5. How is the government trying to end the crisis?

Avoiding a “Lehman moment ” — when the failure of the US bank in 2008 sent shock waves through global markets — is a priority for the government. It’s unveiled measures centered on boosting equity, bond and loan financing for developers to alleviate the liquidity crunch. They’re being allowed to access more money from presales of homes, the industry’s biggest source of funds, and 200 billion yuan ($29 billion) is being advanced as special loans to complete stalled housing projects. The government has tweaked financial rules to try to stabilize the situation, allowing the central bank to increase support for distressed developers and instructing banks to ensure growth in both residential mortgages and loans to developers in some areas. Lenders have lowered their benchmark rates. 

5. Is it working? 

By December 2022, there was hope that prices were reaching a floor just as China’s government was loosening its strictest Covid containment policies. However, the shockwaves from the crisis were still being felt. Bad debt climbed to about 29% of total property loans in the first half of 2022, according to Citigroup Inc. estimates. Data showed price declines in the existing-home market were the most extreme in eight years in October. There was still the risk of another selloff in offshore bonds that could spread to the much larger domestic credit market, and from lower-rated property companies to stronger peers and banks. 

6. What does it mean for prospective homebuyers? 

Across China, millions of square feet of unfinished apartments have been left to gather dust. Economists at Nomura International HK Ltd. estimated in mid-July that Chinese developers had delivered only about 60% of the homes they pre-sold from 2013 to 2020. (Buyer protections commonly used abroad, such as escrow accounts and installment payments, have tended to be weak.) At their height in mid-July, the wildcat mortgage boycotts by owners of unfinished homes had spread to over 300 housing projects in about 90 cities. The protests later subsided. But with more than 70% of urban China’s wealth stored in housing, many livelihoods are at stake and the threat of popular unrest lingers. 

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