Evergrande Crisis in China

In News

• Chinese real estate major Evergrande, $305 billion in the red, is on the brink of explosion.
  • Evergrande is China’s biggest and most indebted real estate developer.
• The Global Equity Market is fearing the contagious effect just like the 2008 subprime lending crisis.

Evergrande Company and its Status

• The Evergrandewas started in 1996 by selling bottled water followed by a stint in pig farming.
• It also owns China’s top professional soccer team (Guangzhou Football Club, managed by former Real Madrid centre back Fabio Cannavaro).
• At present it is the poster boy of the Chinese real estate boom.
  • It rode on a sustained property prices surge in China.
  • It is the main driver of the post-pandemic Chinese economic expansion.
  • It also expanded into more than 250 Chinese cities selling home  ownership dreams to the country’s middle class.

Emergence of Crisis: 2 immediate triggers

• Chinese regulators kicked off probes into the high borrowings of property developers.
  • It was part of a widespread crackdown on sectors such as the digital economy and education in China due to recent Communist tilt.
• To counter that, Evergrande tried selling off some of its business.
  • But a progressive slowing down of China’s property market and tapering demand for new houses crimped cash flows.
• The two factors combined to precipitate the cash crunch at Evergrande.

Crisis at Evergrande

• Worsening fund crunch at Evergrande:
  • It could prompt a regulatory crackdown on the country’s real estate sector.
  • There are concerns that it could potentially spiral into a global financial contagion.
• The company is now struggling under a $300 billion liabilities burden that has decimated its credit rating and share price.
• It is faced with 
  • nearly 800 unfinished residential buildings, 
  • many unpaid suppliers and 
  • over a million home buyers who have partially paid for their properties.

Other Concerns

• Huarong, a Chinese state-owned financial conglomerate, has liabilities of nearly $240 billion.
  • Huarong is reported to be in trouble as well, escalating the perception of a wider systemic crisis in China. 
• Demand to hike a legally imposed Debt Ceiling in USA
  • The US Treasury Secretary issued a warning of an “economic catastrophe” if the USA failed to hike a legally-imposed debt ceiling.
• Presumptions of slowing down in USA Central Bank’s bond purchases
  • It was presumed that the US Federal Reserve may flesh out plans to taper the central bank’s bond purchases after the Federal Open Market Committee met.

Impact of Crisis on markets, global wealth and India

• Key Market indices slumped sharply across Asia-Pacific and Europe
  • The selloff on Monday was fairly widespread, with key indices across the Asia-Pacific and Europe plummeting sharply. 
• Fall in fortunes across globe
  • The global rout in stock markets also hit the world’s biggest fortunes, with the richest 500 people losing a combined $135 billion.
  • Tesla Inc’s Elon Musk’s net worth fell $7.2 billion to $198 billion on Monday as per the Bloomberg’s Report.
  • Jeff Bezos, the founder of Seattle-based Amazon.com, lost $5.6 billion, paring his fortune to $194.2 billion.
  • Evergrande founder and Chairman Hui Ka Yan dropped sharply in Bloomberg’s wealth ranking, with his fortune standing at $7.3 billion from a peak of $42 billion in 2017.
• Indian Stock Markets
  • In India’s stock markets, the metals segment tanked sharply after the news came out.
    • It has been surging since the start of the year and appeared to show signs of overheating.
• Indian Exports of Iron Ore
  • India’s buoyant iron ore exports, much of which is headed to China, could also see an impact if the twin crises in China triggers an extended slowdown in the Chinese real estate market.

Does it trigger systemic risks?

• In finance, systemic risk is the risk of collapse of an entire financial system or entire market.
  • It is opposed to the risk associated with any one individual entity, group or component of a system, that can be contained therein without harming the entire system.
• There are 3 factors here which indicate that there is less chance of this crisis developing into systemic risk. 
  • China has been instrumental in the post-pandemic global economic recovery. 
    • It was the first one in controlling the Covid-19 virus spread.
    • It shrugged off the impact of the lockdowns in 2020 and effectively emerging as the key driver of the global commodities upcycle.
  • China’s extended property boom has now ensured that nearly 3 quarters of the country’s household wealth is locked up in housing. 
    • The property boom started in the mid-1990s.
    • An impending collapse at the biggest real estate company could have a serious knock-on effect on the entire economy.
    • It may drag down growth and potentially set off a cascading impact that could singe the global commodities and financial markets.
  • Indications of the Chinese Communist Party
    • The Chinese government has shown a tilt to ensure that the crisis at both these companies does not spiral out of control.

Conclusions and Way Forward

• Markets have been spooked by fears of an effect on economies- but Evergrande is unlikely to become the Lehman of this era.
• Need to Diversify Export and Import
  • This event triggered by sudden ideological cum regulatory crackdown has again shown the world about unreliable China.
  • India too should diversify its market and supply chain.

Source: IE