Evergrande’s debt crisis worsens; national spread after Nanjing COVID outbreak hints at CCP cover-up

     SinoInsight  1     

OUR TAKE
1. We observed in our July 22 newsletter that Guangfa Bank’s freezing of Evergrande’s assets “could further complicate matters for the property developer and encourage financial institutions to start taking measures to minimize losses from their exposure to Evergrande.” While Evergrande and Guangfa have since resolved their differences, the incident has inspired Evergrande’s suppliers to go public with the company’s repayment problems and threaten lawsuits. Meanwhile, Western financial ratings agencies are making life difficult for Evergrande with recent ratings cuts and explanations.

The downgrade of Evergrande’s ratings and recent wave of repayment calls could trigger even more debt collection activity from the company’s creditors and suppliers, creating a vicious cycle.

2. Evergrande may be “too big to fail,” but the CCP will have a very tough time finding ways to bail out the company should things go south. China’s top property developer owes hundreds of billions of yuan to its suppliers and creditors, including 570 billion yuan of interest-bearing liabilities as of June 29 and 200 billion yuan of banker’s acceptance notes to suppliers from the end of 2020. Yet the CCP’s recent crackdown on the capital market and the tech sector has left investors at home and abroad wary of the political risks of backing Chinese companies and more hesitant about providing them with capital.

When crunch time comes for Evergrande, the CCP will likely adopt radical approaches to buy the company more time to resolve its debt issues and delay concentrated debt defaults, including debt-for-equity swaps with investors similar to arrangements last year. Debt-for-equity swaps, however, may end up only putting off an inevitable debt crisis seeing how Evergrande’s investors could have credit problems of their own. For example, Suning Appliance Group’s 20 billion yuan debt-for-equity swap with Evergrande in 2020 meant that it is having problems in fulfilling its own debt obligations this year. In its attempts to save Evergrande, the CCP could potentially see the debt crisis spread to the company’s suppliers and financial institutions, triggering massive systemic economic and financial risks.

One of Evergrande’s solutions for its liquidity problem seems to be selling its property at steep discounts. The move, however, threatens a race to the bottom in the real estate sector, the triggering of debt crises for other property developers, and even the bursting of the real estate bubble.

According to a report by Beike Research Institute, the scale of debt of property companies in China in 2021 has already exceeded the trillion-yuan mark and is expected to hit 1.2448 trillion by the end of the year, or a year-on-year increase of 36 percent. And in 2020, there were 222 debt default cases, or four times as many as compared to 2019. Aside from Evergrande, other property companies like Seedland, Tahoe Group, China Fortune Land Development, and Sichuan Languang Development are also facing debt problems. Beike expects the number of default cases to increase significantly this year.

3. We have repeatedly warned of Black Swans and political risks in China. Further deterioration of Evergrande’s debt crisis could result in a “Berlin Wall moment” for the CCP and accelerate regime crisis.

     SinoInsight  2     

• On July 21, the authorities in Nanjing’s Jiangning District where the airport is located ordered district-wide nucleic acid testing. Testing was subsequently broadened to the whole city. While the Nanjing authorities issued a circular stating that people leaving Jiangning District must first produce a negative testing result, epidemic checkpoints were only set up at 68 highway and boundary locations in Nanjing at 7:00 a.m. on July 25.
• On July 27, the Nanjing local government ordered municipal and district market regulation authorities to immediately notify the 2,323 pharmacies in the city to stop selling “four types of medication” for cough, fever, antiviral treatment, and antibiotics both in stores and online. The move is likely designed to force people with possible COVID-19 symptoms to visit a doctor for medication (thus allowing easier detection of cases) instead of self-medicating at the pharmacy (possibly furthering spread). However, the move could also result in people with mild illnesses coming into contact with COVID cases when they visit hospitals for treatment, and thus increasing transmissibility.
• On July 28, the official website of the Central Commission for Discipline Inspection and the National Supervisory Commission published an article titled, “Fix Loopholes in Epidemic Prevention As Soon As Possible” (“防疫漏洞儘快補”). The article criticized the Nanjing Lukou International Airport for “lacking oversight and unprofessional management,” and stated that those responsible for the outbreak would be held accountable. On the same day, the Nanjing epidemic prevention and control work headquarters announced a city-wide third round of nucleic acid testing.

OUR TAKE
1. From the information and analysis above, it is highly likely that the CCP is covering up the actual scope of the Nanjing outbreak and cases across the country. Even if only nine cleaners were initially infected on July 10, they had been working around the airport and going about their business for ten whole days before being tested positive for COVID-19. During those ten days, those cleaners would have come into contact with hundreds of people boarding domestic and international flights—a nightmare “super spreader” scenario.

Sun Chunlan’s visit to Nanjing suggests that the central government believes the situation to be serious, but hopes to avoid alarming the population. However, many would sense that something more serious is afoot given the mass quarantines, lockdowns, and firing of officials.

2. The CCP has been boasting of its epidemic prevention and control “successes” since late last year as part of a larger drive to demonstrate the superiority of its socialist system during the Party’s centennial. The Nanjing outbreak, however, is quickly unraveling the CCP’s myth of having controlled the coronavirus.

The Delta variant of SARS-CoV-2 may be more infectious, but publicly available information suggests that poor governance was a crucial factor in determining the severity of the spread. The dismissal of officials responsible for epidemic and prevention work shows that the CCP is well aware of where the bulk of the blame should belong in the recent outbreaks.

Publicly available information also indicates that PRC vaccines are not as effective as the CCP claims. Nanjing Lukou International Airport staff disclosed to Radio Free Asia that 36 of the 38 official coronavirus cases in Nanjing on July 25 involved people who received two shots of the PRC vaccine, while two of the full vaccinated cases turned out to be severe. The CCP’s boast of good vaccine efficacy and appears to be returning to haunt it as the vaccinated (particularly priority personnel like airport staff) drop their guard.

3. The Nanjing outbreak and recent COVID-19 wave comes at a bad time for the PRC. The Chinese economic recovery in the second quarter was lackluster, while recent floods in Henan Province will affect supply chains, transportation, and food supplies.

Further quarantines, lockdowns, and work suspensions will only worsen the deteriorating economy and social problems in China. Meanwhile, mass nucleic acid testing, broader vaccination roll outs (including booster shots), and ramped up epidemic prevention and control work represent a heavy financial burden for the central and local governments, which are already seeing severe fiscal shortages.