Evergrande will likely be contained

Genevieve Signoret

(Hay una versión traducida al español aquí.)

When it comes to Evergrande risk, I concur with the consensus view that there is scarcely any risk that the Chinese property giant’s woes will trigger a global financial crisis, for two simple reasons. First, China’s capital markets are closed. Second, Chinese authorities need not choose between total bailout or total collapse; they  have a rich array of choices by which they can intervene.

Before I go into these arguments, let us quickly review some facts.

First the facts

China’s leader, Xi Jinping, seeks to remake China. He has amassed power and is unswerving—one look at his assault on the tech industry should persuade you of this. And he is on a fierce campaign to slow property prices and tamp down on speculation by putting the regulatory brakes on skyrocketing indebtedness.

In China, the share of real estate and service production in GDP is a whopping 29%. The sector is shockingly indebted. Among property companies, Evergrande is the largest debt issuer. In recent years, it has been borrowing shorter- and shorter-term at higher and higher rates. It currently owes US$ 305 billion and has US$ 669 million interest coming due still this year and US$ 7.4 billion next year.

To collect cash quickly to pay debt, Evergrande sells property it has not yet built, much of it to individuals. And now it has begun to miss interest payments.

Foreigners can’t flee

One reason for my optimism is that China’s capital market is closed. This means that foreign capital won’t suddenly tear out of China, setting off or intensifying a banking crisis there. This limits the potential size of China’s domestic crisis, suppressing the odds for contagion.

Of course, Chinese companies can and do issue debt and list stocks offshore. And Evergrande is no exception. But offshore bonds are worth only a small portion of total Evergrande debt, and the obstacles impeding foreign investors from trading on local Chinese markets do limit the oxygen available for blowing things up in China.

China’s choices are rich

This is no Lehman moment: Chinese authorities do not face an all-or-nothing proposition between bailing out Evergrande or letting it collapse. Rather, they can design infinitely varied mid-way schemes by combining levers from among their rich array for intervening in China’s financial system.

The Financial Times reported last September 26 that “at least two local government in China have taken control of sales revenue from Evergrande properties”. A lever!

Two days later, Bloomberg reported that Evergrande, to raise cash, had sold a 20% stake it held in a regional bank to a state-owned investment group in a deal. Another lever.

I bet we’ll start to see similar stories now every day.

Just to be clear

I’ve said that I doubt that Xi Jinping’s campaign to rein in debt and property prices and the resulting Evergrande crisis will set off a global crash. But don’t misunderstand me. I didn’t say it wouldn’t slow down growth. Because it will.

Nor did I say that Evergrande is finished sending tremors through global markets. Because it probably isn’t.

So, as always: brace for tremors.