Our Dutch correspondent H. Numan takes a look at the current crises in China.
Our Chinese woes get Ever Grander
by H. Numan
Seems like the only real quality items coming from China are pandemics and crises. We can’t blame them for the Black Death. However, the Chinese Communist Party (CCP) denied any responsibility for SARS and now again for Covid-19. They added something new to that deadly duo, as if the Covid-19 pandemic weren’t enough. The Chinese real estate developer Evergrande is going bankrupt. With it, China. And the rest of the world as well. Don’t believe for a minute the crisis can be contained to China only.
Imagine the biggest real estate developer in America goes bust. Add to it a real estate bubble running for decades. All of a sudden, the value of houses drop by 75%. Would that impact the economy of America? Of course it would. Not just America, but the rest of the world as well. It’s Lehman Brothers all over again.
By now you surely have heard of Evergrande. Two weeks ago it all of a sudden popped up in the news. It’s the second biggest Chinese real estate developer, going bankrupt. Evergrande doesn’t do just real estate; it’s a huge conglomerate doing much more. However, real estate is the core — and there isn’t enough money to pay the bills. At the moment the total outstanding is $300 billion. With 200,000 jobless employees and +1.5 million highly unsatisfied customers.
How did that happen? The Chinese have very little opportunity to invest their savings. It’s a communist country, after all. Chinese money may be internationally recognized and a world reserve currency; internally it’s more like coupons to buy goods with. You can’t invest on the stock exchange, the only thing you can do is to invest it in leasing real estate. I stress leasing, because you can’t buy land or properties in China. It all belongs to the CCP. You can lease it for 70 years. Provided you’re really nice to the local party bosses who grant those leases. That’s what everybody in China did.
Local governments (provinces, cities) don’t get much money from Beijing. Most of their income they get out of selling leases to real estate developers. Those developers happily pay the price, plus a nice fat bonus to the local CCP boss, and start selling properties from the drawing. Nothing has been developed yet. Not a stone has been laid. In many countries buying based on a drawing is illegal. In China you have to pay in full upfront for a house. That money they used to buy more leases. And so on. That’s the basic concept of a Ponzi scheme.
Another factor is the failed one-child policy. Chinese prefer boys over girls. If they are allowed only one child, it better be a boy. Many parents had girls aborted. Which resulted in a surplus of boys. Do the math. The policy started in 1979, and ended in 2015. That means a lot of baby boys are now grown man desperately seeking a wife. Each possible wife can pick whoever she wants. They can literally say: for you? Ten others! A man really needs at least one house plus a nice car to be considered for marriage. Having two or more houses is even better. The demand for houses outstrips supply by a huge margin.
The third factor is the lack of spendable income. The average Chinese middle-income worker earns considerably less than his American or European counterpart, about ⅓. Add to that horrendously high real estate prices in China. He makes one third of what you earn, but has to spend at least ten times as much on buying a house. To the Chinese, houses in California are ridiculously cheap.
Something made of quality died long before the Great Leap Forward. Those hugely expensive apartments are shoddily build at best. It’s quite common for large buildings and bridges to wobble or even collapse. That doesn’t get into the news often, as it is local news. China doesn’t allow bad news to go worldwide.
The authorities use building regulations simply to extort money from developers. Developers didn’t care. What you can’t see doesn’t matter. Cover things up with a bit of plaster, and pay whatever is demanded. Real estate prices rose at least 10% per year, so who cares?
The basic interest doubling rule works like this: If the interest rate is 7%, it takes 7 years to double the original amount. Lower rates take longer, higher rates work faster. It means that Chinese real estate doubles in price roughly every 5-6 years. After another 5-6 years, it doubles again. And again: 2-4-8-16-32-64. That is unsustainable. Even the Chinese government knows that.
So this year they set three rather simple rules to curb the bubble a bit: a developer has to have some financial reserves other than real estate. Houses can no longer be sold from the drawing; the property must be in a certain stage of development. And lastly, a house must be delivered ready for occupancy. Meaning: not an empty shell without a roof, windows or facilities. Pretty basic rules. However, even those very light rules proved to be way too much for Evergrande.
Evergrande tried to play a very dangerous card: they told the government they would be forced to sell all their assets to cover their debts, for whatever they can fetch. No investor will swap debt one on one. Evergrande started by offering 25% discount, but that’s just for starters. Investors might consider a debt swap at +75% discount. That means ALL real estate in China will drop accordingly, wiping out the entire middle class, and a lot of the upper class.
Why is that playing a very dangerous card? Because they are backing the wrong man. You see, in China there is only one party. That doesn’t mean everybody thinks exactly the same. Every political party has at least three wings: left, center and right. Even the NSDAP. The SA represented the extreme left wing, the SS the extreme right wing. That goes for every political party, wherever on the world. Your DNC has it; the Reps have it; every party has it.
Instead of joining a separate party you join a faction under a CCP big shot. Evergrande joined the Li Keqiang faction. That’s the faction of the prime minister. Not the faction of Xi Jinping, the president for life. Xi doesn’t like Li, to put it mildly. So he’s very happy to see Evergrande falling into the abyss. That’s one enemy fewer to worry about.
Xi’s position is not — yet — undisputed ruler of China. For now, he’s satisfied being president for life. He still has to consolidate his position. When you read about corruption trials in China, that’s Xi replacing highly corrupt enemies with his own equally corrupt people. Has nothing to do with fighting corruption. Hitler used long knives. Xi uses corruption trials.
So, Xi will very happily let Evergrande die. All he cares about, as any dictator and every socialist party does, is how to remain in power. That is the primary goal of the CCP. It doesn’t matter what happens with the population, as long as it can stay in power.
As you saw last year during the Covid-19 crisis in China, draconian measures were taken to control it, or try to control it. We really don’t know what’s happening in China. It is a closed country. Those who do know what’s going on (foreign intelligence services) don’t tell. Data coming from China is notoriously unreliable. According to Chinese — in other words CCP — economic data, China survived the Covid-19 crisis relatively unscathed. Where the rest of the world is deep in crisis, China reported economic growth. Not a lot, but some. We don’t know how many people died there. That information is kept strictly secret. China isn’t allowing an investigation of the Wuhan laboratory where the virus was developed. Eventually they will, but they have at least two full years for a cover up. We will never know what really happened there.
If China doesn’t care a lot about what happens to its own citizens, they care a lot less about the rest of the world. If Xi orders state businesses — all businesses in China — to bail Evergrande out, that will be for his own survival. Foreign businesses, especially the Hong Kong and Shanghai Bank, will get no support.
Will Xi bail Evergrande out? Possibly. He can’t do that directly, as that goes against all party doctrines. But he can easily circumvent that by whispering the word. We don’t know if he will, but he has very little option to do otherwise. Unless he really wants to see his own country literally go bankrupt. Together with the rest of the world, who then will demand compensation. So far not much has been said about the responsibility of Covid-19. But another, even bigger crisis, will be too much.
Do mind that Xi has a LOT of power already. Jack Ma was the founder of alibaba.com, and became a multi-billionaire. His wealth was estimated at 15 billion. He said something in public that displeased Xi, and disappeared for three months. When he reappeared, he was a completely changed man. Everything the party said was right, he was all in for the people, and donated part of his wealth to charities. His wealth now is estimated less than half. All taken over by Xi and the CCP. Imagine that happening to one of our billionaires, like Zuckerberg, Bezos or Gates.
There are more economic problems I didn’t address: a few weeks ago China closed all private schools. That used to be a multi-billion-dollar industry. Closed down overnight, especially foreign language teaching (English). Why? Xi Jinping wants Chinese children to be educated as their grandparents were under Mao.
China has enormous problems getting into the microchip business. The financial losses there make the Evergrande bankruptcy look almost benign. The Belt and Road Initiative is also a costly failure.
There is a huge chance China will look abroad to ease its problems. Germany did it in 1939. Italy and Japan a bit earlier. Argentina did it in 1982. Fortunately, the Chinese army isn’t ready for anything but a parade. In fair weather, that is.
Not that we have to worry about that. General Mark Milley will no doubt call his Chinese superiors if Biden wants to attack China. Let’s hope his superiors return the favor.
— H. Numan