China’s vast banking system, the world’s largest, is highly exposed to the real estate crisis, with nearly 40% of all bank loans related to real estate. And pressure has mounted on these banks after dozens of real estate developers, led by China Evergrande, the world’s most indebted developer, have defaulted on overseas bonds or missed payments.
The scale of China’s real estate problems – massive debt, an oversupply of apartments, and growing consumer wariness about buying – could force the government to spend huge amounts of money bailing out banks in the coming years. It means something.
Beijing authorities have already taken some steps to highlight the difficult choices real estate debt poses for policymakers. For example, it allowed banks to give borrowers additional time before their loans came due. This step does very little and risks resolving the problem in the future. But it may send a message that both borrowers and lenders can continue their careless behavior in hopes of relief. This will delay the day when banks will be able to lend to more productive venture companies.
Founder Andrew Collier said: “Unless China can order banks to write off bad loans in the real estate market, interest costs will continue to erode the economy while significant capital continues to be wasted on worthless investments. Probably.” Managing director of Orient Capital, an economic research company in Hong Kong.
Still, few expect that China’s decline in real estate prices will spark an out-of-control chain of major bank failures like the one the United States experienced 15 years ago. China’s banking system holds four-fifths of the country’s financial assets, including most of its bonds, and is too large for the government to fail.
The government directly or indirectly holds control over virtually all banks, giving it a powerful say in their fate beyond its broad regulatory powers. China’s financial system relies primarily on bank loans with terms of one year or more, unlike tradable securities, which rapidly declined in value in 2008, sparking a global financial meltdown. And regulators are blocking most large-scale transfers of funds within and outside the country. China’s financial system is largely immune to the kind of sudden outflows of foreign capital that triggered the Asian financial crisis in neighboring countries in 1997 and 1998.
But China’s current real estate problems, stemming from years of aggressive lending and speculative overinvestment, pose a formidable challenge for policymakers.
Shortly before he resigned in March last year, then-Vice Prime Minister Liu He gave a speech warning of the dangers real estate poses for China.
“If not properly addressed, risks in the housing sector are likely to pose systemic risks, which is why we need to take immediate action to address them,” he said at the World Economic Forum in Davos, Switzerland, in January. We need to take action.”
In interviews in recent weeks, four officials in Beijing and Shanghai familiar with China’s financial regulatory measures provided detailed views on how regulators plan to address real estate-related risks. All requested anonymity because they were not authorized to comment publicly.
First, Chinese regulators are giving banks more leeway when declaring loans in default, meaning the borrower is unable to pay. This allowed banks to delay reporting financial losses.
The policy, which allows banks to extend repayment terms for loans that borrowers are having difficulty repaying, actually began during the pandemic, according to people familiar with the regulatory system. The policy is aimed at giving banks more leeway to deal with companies whose sales have plummeted due to the coronavirus outbreak and lockdowns, without forcing them to set aside additional funds for bad loans. . But the leniency continued this year, extending to the much larger and more deeply troubled real estate sector.
Additionally, China’s central bank, the People’s Bank of China, has conducted sophisticated stress tests on the balance sheets of 20 of China’s largest commercial banks to ensure banks’ resilience in the event of further property losses. , three people involved said.
Three people familiar with the matter said stress tests conducted last winter found the all-state-owned banks could withstand a further significant deterioration in China’s real estate market. However, at least half may need additional capital to ensure they meet increasingly stringent international standards for retained earnings.
Europe’s central banks act separately from China’s central bank and have set up working groups to collect and share information on how much money their commercial banks lend to China, but so far However, almost no exposure has been found.
A key part of China’s strategy is to spread the cost of dealing with real estate losses over multiple years, the people said. This could allow banks to use potential future profits from other loans to offset losses from lending to real estate developers.
Almost half of China’s real estate-related loans consist of home loans, mainly home loans. Mortgage losses are virtually non-existent because homeowners pay their mortgages on time or early.
China has long required much higher down payments than Western regulators. First-time home buyers need a down payment of at least 20 to 30 percent of the purchase price, and second homes require as much as 70 percent.
To avoid losing the down payment, households rarely default on their mortgage payments. As a result, these loans have consistently been very profitable for commercial banks, which charge interest rates several percentage points higher than what banks pay their depositors. The government recently asked banks to lower mortgage rates to help households have more cash to spend, but banks have resisted the move.
Lending to real estate developers is a top concern for commercial banks and regulators, but its role in overall bank finances is limited, with Hong Kong analyst Collier saying it accounts for 6-7% of bank loans. It is estimated that it is occupied. Chinese banks have strong ties to the government and have influence to demand repayments from developers.
Another problematic customer category for Chinese banks is local government financial affiliates that borrow funds on behalf of local governments. Local affiliates borrow twice as much from banks as domestic real estate developers.
Most of the affiliated companies are involved in real estate development and related activities such as construction of roads, bridges and other infrastructure. Private developers have spent billions to buy land at local government auctions after running out of bidding funds. Currently, financial companies are facing huge losses, but progress is slow because they and the banks are ultimately controlled by the Chinese government.
Banks, real estate developers and local governments are all hoping that the Chinese government will eventually help them. However, the central government has so far shown no enthusiasm.
“The system continues to move forward with this and wait for some kind of relief, but it hasn’t come yet,” said Lester Ross, managing partner at Wilmer Hale LLP’s Beijing office.