As I’m sure most have heard, China’s second largest land developer Evergrande is in dire financial straits. Evergrande has debts of over US$400 billion (reported as only US$300 billion two weeks ago) that are due immediately, and the company lacks the cash to pay it off. As of today, it managed to scrape together US$1.5 billion to calm one creditor, but that’s a drop in the bucket.
People are comparing this to the Lehman Brothers collapse, but that’s not the only valid comparison. This is on par with Enron. In 2001, Kenneth Lay and Jeffrey Skilling pumped out ENRON shares at $90 and paying themselves millions in bonuses, knowing the company would collapse in a matter of weeks. Those who “invested” at ENRON lost everything, and only the wealthy were compensated.
Evergrande’s chairman Hui Ka Yan was threatening his workers, telling them to invest their life savings in the company or they wouldn’t get paid their bonuses (and he would know whether they did or not). Many did, by force and by fear, and now may lose everything if when the corporation collapses. Meanwhile, Hui paid himself $11 billion in dividends (reported as only US$8 billion two weeks ago).
Where ENRON and Evergrande differ is who loses money. ENRON only ripped off individuals and investment houses; it was mostly the already wealthy who were hit. Banks were protected by the FDIC. In China, many of those hurt will be individuals trying to save and own a home, losing their life savings with no means of compensation; the regime certainly won’t care about how this affects individual citizens unless it causes a revolution. But just as important, 171 banks (mostly Chinese, some foreign) and over 100 investment firms are on the hook for loans to Evergrande. If the debts are over US$400 billion, then we’re talking over a trillion in financing. And unlike the G7 “too big to fail” attitude, the mass murdering PRC government may choose to let it fail unless that takes away their control. Then it may just seize and nationalize the company instead.
As the Chinese property titan teeters on the brink of collapse, there are growing fears its ruin could threaten China’s entire economic model.
As the crisis facing the world’s most indebted real estate company rages on, many experts have remained cautiously optimistic that the nightmare was under control.
But there are now growing fears that Evergrande’s potential collapse won’t be able to be contained as easily as many initially believed.
And there’s a reasonable chance it could end up shattering China’s wider growth model along with it.
Evergrande’s troubles began as China’s real estate market soared, with demand for homes in cities such as Beijing and Shanghai sending prices skyrocketing.
The company took out a string of loans and expanded rapidly, snapping up assets and making the most of China’s thriving economy.
But when property prices began to drop in smaller cities, and when the Chinese government rolled out measures to curtail over-the-top property borrowing, via its so-called “red lines” policy, it left Evergrande in the lurch, with mountains of debt totalling a whopping $408 billion.
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Despite serious alarm over the Evergrande saga, many economic gurus have clung to the belief the government wouldn’t let the company fail or – if it did – the threat facing the wider economy would be curtailed.
But according to an alarming article by Bloomberg’s Andrew Browne, Evergrande’s “controlled explosion” might not be so easily contained after all.
And Browne argues the nightmare “may eventually blow up China’s entire economic growth model”.
The analysis explains that China’s growth model has long been based on the “doubtful” idea that demand for real estate is “inexhaustible”, which means prices will always rise.
But in reality, “migrant flows are drying up” – a trend exacerbated but not caused by the Covid pandemic – which means there’s nobody to buy all those shiny new apartments.
You can’t have infinite growth in a finite economy or world. Like all ponzi schemes, Hui depended on a constant influx of new money from suckers. Now that the public know, they won’t buy apartments even at half the offered price. And as the money dries up, the inevitable collapse happens.
Because of how the PRC controls banks, most of the debt collapse will be internal to China unless they demand debtor developing nations suddenly pay up. (Wouldn’t it be fun to see all of Africa and Latin America say “No.” at the same time?) The biggest international effect will likely be the sudden stop in construction and end of demand for raw materials.
If Beijing was willing to make Jack Ma disappear for three months and throw him into a “re-education camp” (or whatever they did with him), it’s not beyond belief the regime would do the same or worse to Hui if he collapses the entire PRC financial system. The only human rights that the PRC believe in are the right eye, right lung and right kidney which they can sell to transplant tourists.