1 More signs emerge of financial contagion spreading from China’s real estate crisis
Real estate transactions plummet in September
Sept. 28
China Index Academy noted that the total land acquisitions of 50 real estate developers it was monitoring fell by 57.5 percent year-on-year and 24 percent month-on-month in September 2023.
China Index Academy also observed that state-owned enterprises are still the main group in acquiring land.
Oct. 1
Data from China Index Academy showed that the transaction volume of new commercial housing in first-tier cities in China and 50 key cities fell sharply in September, including by as much as 30 percent to 60 percent as compared to 2022 (when lockdowns were still in effect).
First-tier cities:
- Beijing: 3,090 homes sold, or down 14.66 percent month-on-month and down 58.48 percent year-on-year.
- Shanghai: 4,011 homes sold, or down 29.08 percent month-on-month and down 64.59 percent year-on-year.
- Guangzhou: 3,673 homes sold, or down 18.90 percent month-on-month and down 47.66 percent year-on-year.
- Shenzhen: 2,468 homes sold, or down 3.37 percent month-on-month and down 28.61 percent year-on-year.
50 key cities:
- 73,963 homes sold, or down 43.8 percent month-on-month and down 29.8 percent year-on-year.
LGFVs offload property
Sept. 25
Mainland media reported that an asset operation and management firm state-owned company Jinan Urban Development Group has noted in a Sept. 1 bidding announcement for housing sales agency services that it planned to sell a total of 1,341 apartments with a combined floor area of 166,000 square meters. The announcement added that the asset operation and management firm would be selling apartments from other projects in the future.
Mainland media noted that the current monthly transaction volume of new and second-hand homes in Jinan, the capital city of Shandong Province, is about 8,000 apartments. This means that the 1,341 apartments sold by the subsidiary of Jinan Urban Development Group accounts for nearly 20 percent of all new and second-hand homes sold in Jinan. Some mainland media outlets estimated that the total value of the 1,341 apartments was about 2.835 billion yuan based on the average listing price in September 2023.
Some mainland media outlets believed that the 1,341 apartments could have been built during the “crazy” period (about 2017 to 2021) when the land market was hot in China and developers were building free resettlement housing for local governments (to get a leg up on competitors in acquiring land). Other media outlets speculated that Jinan Urban Development Group had bought those 1,341 apartments to be used as resettlement or rental housing.
Sept. 29
Mainland media China Real Estate News reported that local government financing vehicles (LGFVs) in Beijing, Jinan, and Guangzhou were found to have put up many apartments for sale within the span of about a week, a development that sparked heated discussions.
On Sept. 20, the Chaoyang District Housing and Urban-Rural Development Committee in Beijing Municipality auctioned off 154 vacant unfinished apartments (毛坯房) in the China Railway Construction International City district at the average starting price of about 87,300 yuan per square meter; the average price of houses for sale in the district was 93,700 yuan per square meter. The project’s average starting price of homes was just over 20,000 yuan per square meter ten years ago. Sources familiar with the matter told China Real Estate News that the apartments could have been resettlement homes that were not utilized. The sources added that only a few of the unfinished apartments had been successfully auctioned off, and they went for the lowest bid price.
China Real Estate News also reported that the Beijing Municipal government-controlled Beijing Urban Construction No. 5 Construction Group had listed 26 residential units in the Baoli Jinquan Community on the Beijing Equity Exchange, during this period.
China Real Estate News reported that a state-owned group in Guangzhou had made plans on Sept. 28 to sell 400 unfinished apartments (準現房) with a total value of 500 million yuan.
China Real Estate News further reported that Jinan Urban Development Group had announced the sale of 1,341 apartments on Sept. 1. Jinan City Investment, another SOE, had previously sold more than 6,000 apartments in two real estate projects (Dongcheng Yijia and Xijiang Huafu) in the city of Jinan in Shandong Province.
China Real Estate News believed that the phenomenon of LGFVs in Beijing, Jinan, and Guangzhou offloading a lot of property is likely not limited to those three cities, and that the phenomenon could be more prevalent.
Small- and medium-sized bank risks on the rise
Sept. 26
1. On Sept. 19, the Shenyang Rural Commercial Bank merged with 30 rural credit cooperatives in Liaoning Province to form the Liaoning Rural Commercial Bank. Mainland media reported that Liaoning Rural Commercial Bank has registered capital of 20.789 billion yuan, and that the plan for the bank’s establishment was announced in November 2022 and approved in June 2023.
A breakdown of key shareholders include:
- Liaoning Financial Holdings Group (state-owned financial enterprise) invested 20.6 billion yuan to become the largest shareholder with 99.09 percent of Liaoning Rural Commercial Bank’s shares.
- Liaoning Energy Investment (Group) invested 92.5 million yuan to become the second-largest shareholder with 0.44 percent of Liaoning Rural Commercial Bank’s shares.
- Shenyang Shengjing Financial Holdings Investment Group invested 82.6144 million yuan to become the third-largest shareholder with 0.4 percent of Liaoning Rural Commercial Bank’s shares.
Official media claimed that the establishment of the Liaoning Rural Commercial Bank is part of a progress of deepening reforms of rural credit cooperatives nationwide.
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According to publicly available information, the Liaoning Rural Credit Cooperatives Union has under it two municipal-level agricultural and commercial banks in Shenyang and Dalian, 28 county-level agricultural and commercial banks, and 30 county-level credit cooperatives. As of the end of August 2022, the Liaoning Rural Credit Cooperatives Union has 930 billion yuan in total assets (ranked second in the banking industry in the province), 730 billion yuan in total deposits (ranked first in the banking industry in the province), and 360 billion yuan in loans (ranked first in agricultural loans in the banking industry in the province).
2. Semi-official mainland media The Paper reported that the National Administration of Financial Regulation and the Guangdong Supervision Bureau approved Guangzhou Rural Commercial Bank’s public issuance of 2.964 billion shares (face value of 1 yuan per share) and a private offering of not more than 676 million overseas-listed foreign shares (H-shares). After deducting issuance expenses, all funds raised from the issuance shall be used to replenish the bank’s capital.
Guangzhou Rural Commercial Bank’s semi-annual report noted that its registered capital as of June 30 was 11.451 billion yuan. In the first half of 2023, the bank’s operating revenue fell 16.14 percent year-on-year to 9.401 billion yuan, while its net profits fell 19.43 percent from a year ago to 2.389 billion yuan.
Sept. 27
Mainland media reported that Shengjing Bank announced that it had conditionally agreed to sell assets with an aggregate principal and interest book balance of about 183.7 billion yuan to the state-owned Liaoning Asset Management Co. Ltd.
Meanwhile, Liaoning Asset Management had conditionally agreed to purchase Shengjing Bank’s assets and pay 176 billion yuan to the bank through the issuance of special notes. The special notes have an initial term of 15 years (subject to extension by mutual agreement) or until the issuer repays the principal amount within the 15 years, and Liaoning Asset Management will make annual interest payments of 2.25 percent to Shengjing Bank.
Overseas Chinese financial sources told overseas Chinese language media that the asset sales deal between Shengjing Bank and Liaoning Asset Management was a “trick” by the Liaoning provincial government to allow it to cover the 100 billion yuan of bad debts owed by China Evergrande to Shengjing Bank. Swapping the debtor from Evergrande to the Liaoning government would significantly lower Shengjing Bank’s non-performing loan ratio, at least on paper. However, the bad debts remain and the bank’s liquidity and actual NPL ratio stay unchanged because the Liaoning government does not have the money to make repayments.
Overseas Chinese-language media cited a financial report by Shengjing Bank as showing that it had issued a total of 620.3 billion yuan worth of loans and advances as of June 30, 2023. Based on this figure, the bank’s sale of non-performing assets to Liaoning Asset Management is equivalent to about 30 percent of the loans on its balance sheet.
In 2016, Evergrande spent more than 13.9 billion yuan to acquire 27.24 percent of Shengjing Bank’s shares and become the bank’s largest shareholder. In September 2022, Evergrande sold all of its shares in Shengjing Bank. On Nov. 1, 2022, Evergrande announced that Shengjing Bank was suing it to recover loans issued to Evergrande Group from 2020 to 2021 totaling 32.595 billion yuan.
Many local governments can’t pay wages
Sept. 27
1. According to information circulating on Chinese social media, the Yangzhou City authorities convened a subsidies meeting on Sept. 18 to inform its member work units about a notice from the Jiangsu provincial government that required officials in counties and cities to pay back their basic performance bonus awards from the year 2021 by the end of March 2024. Chinese netizens responded to the information with cryptic remarks indicating that the Yangzhou authorities had run out of money to pay civil servant salaries.
A “Big V” commentator on Weibo said that the “good times are over” in Yangzhou without the property sector boom, and added that the city only collected 30 million yuan in taxes but had to pay 1.3 billion yuan in expenditures.
2. Mainland media 21st Century Business Herald reported that doctors at Beijing Tongren Hospital (the hospital’s eye center is the best in the country) had recently reported that their wages had been significantly reduced in August, with performance bonuses and night shift bonuses falling by as much as 50 percent. The doctors had since filed a complaint against the hospital.
21st Century Business Herald also reported that doctors’ salaries have been slashed at hospitals over the past two years. This June, information had emerged that doctors’ wages had been cut in Henan, Guangxi, and other areas.
The 21st Century Business Herald’s report was subsequently scrubbed.
Sept. 28
Dajiyuan (Chinese-language edition of The Epoch Times) reported a source familiar with the situation as saying that “everyone is just trying to make ends meet now” and that his classmates in the public security apparatus had revealed that some public security departments have not been able to pay wages.
The source also learned that the districts of Shunyi, Changping, Pinggu, and Mentougou in Beijing Municipality have had to borrow money from Cha0yang District to pay civil servant salaries; the Chaoyang authorities still have some revenue because they are able to levy high taxes on foreign companies based there. Meanwhile, the three Beijing districts of Haidian, Daxing, and Fengtai are “barely surviving.”
Dajiyuan also reported that the year-end bonuses for civil servants and personnel at public institutions at the district level in Shanghai have shrunk significantly. Previously, year-end bonuses reached 50,000 yuan to 60,000 yuan, but were reduced to 10,000 yuan to 20,000 yuan. The bonuses of teachers at many universities in Shanghai have also been slashed from 25 percent to 10 percent.
Meanwhile, with the exception of Xiong’an New Area and Baoding Municipality, the local governments in most districts and counties in Hebei Province are issuing wages on a so-called “hold one, pay one” (押一付一) model, or where civil servants are paid the previous month’s salary and see their wage for the current month being withheld. Under this payment scheme, civil servants who leave their jobs early for whatever reason end up losing one month’s salary.
Backdrop
Local governments in some areas have been scrapping price floors as they strive to stimulate property sales.
Meanwhile, the CCP authorities have also commenced a $137 billion plan to defuse LGFV debt risks by swapping implicit debt for bonds with lower interest costs. For instance, Shanghai Securities News reported on Sept. 27 that the Inner Mongolia region will issue three “refinancing” bonds worth 66.3 billion yuan with maturities between 3 to 7 years.
On Sept. 28, China Evergrande announced that Hui Ka Yan had been taken away by the authorities. Other current and former Evergrande executives were also arrested or probed in the weeks leading up to Hui’s downfall.
Our take
The various developments above are signs that financial contagion from China’s real estate downturn is spreading and deepening the CCP regime’s domestic troubles.
1. Political reasons aside (see our Oct. 2, 2023 newsletter), Beijing’s takedown of Hui Ka Yan during a period of peak property sales (before the PRC National Day Holiday and during “Golden September and Silver October”) suggests that the Xi leadership has likely recognized that its recent efforts to resuscitate the real estate sector have essentially failed and a “hard landing” is imminent. If so, then the Xi leadership has likely also calculated that purging Hui and other top Evergrande executives will not move the needle on the property sector situation by much. In fact, moving against Hui and the others allows the CCP authorities to claim that it is working to fix and turn things around in the real estate sector by cleaning up corruption; however, we believe that the CCP’s propaganda is not likely to improve buyer confidence.
We wrote in our China 2023 Outlook that “China’s real estate crisis will worsen further and the CCP will find it difficult to turn things around even as it introduces various stimulus and rescue policies. As the crisis deepens, some large Chinese real estate companies could fall into technical bankruptcy and be taken over or restructured by the CCP authorities.” We believe that our prediction is on track for full verification as the Evergrande crisis worsens, vicious cycles perpetuate, and financial contagion spreads to the financial sector and other parts of the Chinese economy.
2. Beijing has tried to turn things around in the property sector with several stimulus measures in the second half of the year, including:
- July 10: The CCP authorities extended the period of financial support for the “stable and healthy development of the real estate market.”
- July 24: A Politburo meeting pledged to “adjust and optimize real estate policies in a timely manner.”
- August onwards: Many first-tier and second-tier cities began relaxing or scrapping property purchase restrictions.
- Aug. 25: The CCP authorities rolled out the so-called “recognize property, not the mortgage” (認房不認貸) policy.
- End-August to early September: The CCP authorities further relaxed property restrictions, including some local governments removing price floors.
Beijing’s policies, however, have had little to no effect in boosting the real estate sector. China Index Academy’s data for September shows that property sales are worse now than during the pandemic period. Perhaps more troubling is the sharply reduced land acquisition by developers, which indicates significantly fewer future projects and sales. Meanwhile, local governments appear to be relying on land acquisition by SOEs to support their operations and covertly generate revenue.
3. The contraction in land and new home sales in September has very likely worsened the situation with local government financial shortages. Some local governments (parts of Yunnan Province, Hebei Province, etc.) have been delaying the payment of civil servant salaries since this year, and the situation appears to have become so dire that some districts in first-tier cities like Beijing Municipality have been borrowing funds from wealthier district governments to make wage payments.
As the property sector crisis worsens and local governments struggle to generate revenue, local governments in several areas will next struggle to sustain basic government operations, provide government services, and even properly carry out “stability maintenance.” This would in turn affect the CCP authorities’ ability to handle social instability and mitigate political risks.
4. Part of the reason why LGFVs are offloading property now could be due to local governments being in need to raise funds and cover their financial shortages.
Another possible reason is that local governments and LGFVs are looking to cash out as quickly as possible while their property still holds reasonable value. Local governments and LGFVs are likely to know in advance about any upcoming real estate policy changes from the top, and could be concerned that certain policies (i.e. removing price floors) would eventually leave them with a pile of greatly devalued RMB assets. If this is indeed the case, then it can be projected that housing prices would fall sharply over the next several months and drag down other RMB assets.
5. A sharp decline in RMB asset prices as the real estate sector heads for a “hard landing” will likely see financial contagion spread more quickly in China:
- Small- and medium-sized banks are likely to be the first in line in the financial sector to be impacted by the worsening property sector crisis. As noted in our China 2023 Outlook, “Small and medium-sized banks will see increased financial risks. High-risk banks could merge, be taken over by bigger banks, or file for bankruptcy.”
- The establishment of the Liaoning Rural Commercial Bank suggests that the 30 rural credit cooperatives that merged with Shenyang Rural Commercial Bank could have entered into technical bankruptcy. This is because the three Liaoning financial SOEs hold 99.93 percent (30.768 billion yuan) of Liaoning Rural Commercial Bank’s shares, and the remaining 0.07 percent (21.6671 million yuan) of the shares appear to be comprised of the assets and deposits of the 30 rural credit cooperatives. The low assets and deposits of the 30 rural credit cooperatives is staggering considering that the Liaoning Rural Credit Cooperatives Union, the entity to which those 30 rural credit cooperatives belong, ranked second in the province by total assets at the end of August 2022.
- Mainland media China Newsweek previously reported in May 2022 that small- and medium-sized banks in Liaoning were the areas hit hardest by financial risks. From 2021 to May 2022, 63 leading cadres (一把手) of small- and medium-sized banks in Liaoning were investigated.
- Guangzhou Rural Commercial Bank’s issuance of 3.6 billion yuan worth of private and public shares, or 31.4 percent of its registered capital (11.451 billion yuan), suggests that the bank is lacking in capital.
- The asset purchase agreement between Shengjing Bank and Liaoning Asset Management hints at the scale of the Evergrande crisis and suggests that what is currently publicly known is just the tip of the iceberg.
6. Other large Chinese real estate developers likely have debt and financial problems that are similar to those of China Evergrande. Those problems will increasingly bubble to the surface as China’s property sector spirals downwards, and will in turn accelerate the sector’s descent to a “hard landing.”
A real estate sector “hard landing” and the resulting financial and economic problems that surface will likely worsen the political crisis plaguing the Xi leadership. Worsening political crisis will compel Xi Jinping to get tough on the business, financial, and political elite in the regime, and could even steel Xi’s determination to blame his predecessors (Jiang Zemin and his cronies in particular) for leaving him with the “basket case” of problems.
