China’s GDP growth has plummeted. Production only increased by 0.4% year-on-year in the second quarter of 2022 (the quarterly contraction was -2.6%). This is the worst growth rate since the first wave of covid in 2020. China’s economy is experiencing a slowdown which, to top it off, coincides with the growing threats from a real estate sector which is already the “Achilles heel” of the Asian giant. To the growing defaults of Chinese developers are now added the voluntary non-payment of mortgages by many families. These two events put a strain on the country’s banking sector (creditor to households and developers), which has been responsible for oiling and keeping the economy afloat in recent years.
Two pieces of the same face. On the one hand, regarding the economy in general, the official data published by the National Statistics Office (ONE) was much worse than expected by analysts, who forecast a contraction of 1.5% in this quarter. , compared to 2.6%. On the other hand, the controlled implosion of the housing bubble is becoming a growing risk for the Chinese economy. Taming the explosion of such a large sector (about 20% of GDP) in a slowing economy It’s a landing that even the best stunt pilot can’t guarantee.
Societe Generale: “The risk is that this situation triggers a vicious circle of a further decline in housing sales, more defaults (even bankruptcies) of developers”
To the problems of dozens of promoters is now added another problem with unforeseeable consequences. Thousands of Chinese families have gone on a kind of “strike” in which they refuse to continue paying their mortgages due to lack of certainty about the future of their homes. Many real estate projects are stalling in China due to the lack of liquidity of some construction companies and promoters, which causes the mobilization of a large part of the citizens who had deposited part of their savings (and paid month after month) in these projects.
“In particular, the recent mortgage payment strike by homebuyers in more than 20 cities is a dangerous piece in the debt domino, whose demolition could trigger a vicious cycle with further decline in home sales, more defaults (even bankruptcies) promoters and a sharp increase in non-performing loans in the banking sector,” Societe Generale economists warn in a report released last Friday. Housing prices have already been falling for ten consecutive months.
To this alert is added Zhu Guangyao, who was vice-minister of finance between 2010 and 2018, who warns that “prevent the risk of a ‘crash’ in the real estate sector must be one of our priorities and be given serious attention”, according to Bloomberg. Local governments should handle such mortgage boycotts well and “be strictly on guard to prevent them from spreading and triggering a banking crisis,” said Zhu, who is now an adviser to the State Council.
The housing situation is getting worse. The problems of this sector, which affects practically all the tentacles of the Chinese economy, pose a serious threat for the struggling economy after a disastrous second quarter (with part of the country locked down and under restrictions). On the one hand, “the income and employment situation remained difficult. Income growth slowed from 6.1% to just 2.5% nationally and from 5.7% to just 1.7% in urban areas In June, the general unemployment rate fell from 5.9 % to 5.5%, in line with the February level, but still significantly higher than at the end of 2021. More worryingly, the youth unemployment rate increased further from 18.4% to 19.3% “, they warn of Societe Generale.
More serious, the massive survey conducted by the People’s Bank of China among depositors of the ‘confidence in their future earnings’ and ‘future job prospects’ have plummeted at historically low levels. Meanwhile, home sales and the sector continue to weaken “given the appalling financial and financing conditions of developers, investment and housing construction, which need a much stronger and lasting recovery in home sales. In June, all the construction indicators deteriorated: housing starts and housing deliveries which contracted by more than 40%”, explain the economists of the French Investment Bank.
By analyzing in more depth the strike of families who stopped paying their mortgages, we find that almost all the projects they are owned by developers who are already in financial trouble.
The link with the banking sector
According to Societe Generale’s calculations, the total mortgages attached to all struggling developers amount to around 2,000 billion yuan (around 300,000 million euros), which is equivalent to just under 1% of all bank loans, a percentage that seems low at first sight. glance, but it is more than enough to complicate the life of a banking system which has many assets of dubious quality on its balance sheets: “The risk is that this situation triggers a vicious cycle of a further decline in home salesmore defaults (or even bankruptcies) of promoters”.
To reduce this risk, the People’s Bank of China and regulators are again easing monetary policy and mortgage lending. China blows and blows at the same time. Try to get the economy to reduce its indebtedness and its dependence on real estate but without causing an earthquake in the economy. A kind of “creative destruction” controlled in slow motion, the result of which is unknown.
UBS economists note in a note that “regulators have recommitted to supporting developer financing in the bond markets and have asked banks not to withdraw loans to builders and developers. On the other hand, dozens cities have lowered down payment requirements and eased restrictions on buying a home. such policy easing has so far been insufficient to reverse course in the real estate market… The lack of clear solutions and roadmaps for struggling developers has also affected market confidence.”
Alicia Garcia Herreroeconomist at Natixis, notes that “even with government support measures, the number of real estate transactions (in the 30 largest Chinese cities) contracted again in June by -9.3% year on year”. concerns about the financial health of the real estate sectorwhich does not bode well for future investments in the sector,” warns this Asian economics expert.
The Mortgage Boycott or Rebellion It may be the spark that ignites a bigger fire. On the one hand, more families with their houses under construction could join this movement. On the other hand, the weakness of the Chinese economy is already a risk for the crime rate in itself. The risk is that “there will be a sharp increase in defaults in the banking sector”. Even in a benign scenario, it is very likely that home sales will continue their transition from off-plan projects, which currently account for around 90% of total residential sales, to the home already completed. This transition may generate additional and substantial challenges in cash flow for all promoters”, sentence from Societe Generale.
Charlene Chu, one of the most prestigious rating analysts, warned of this a few days ago. “Chinese developer defaults are just beginning.” This expert explained it in a simple but very enlightening way. It is true that banks lend money to developers in exchange for a guarantee or collateral (usually houses that are finished or under construction). However, this does not prevent a crisis, as this collateral can quickly lose value and generate a snowball effect in the sector. This is exactly what could be happening now, a problem made worse by the mortgage boycott of thousands of Chinese. “This is where things could start to get a lot uglier” If lenders start lowering the price of that collateral, Chu said.