Shaky scaffolding: Why is China's real estate sector facing a crisis?

Big property developers in China, like Evergrande, are facing a massive shortfall of money, dragging down the sector along with the home demand and prices

China's economy showed signs of a slowdown in the latest data released for July. Covid-19 cases have been rising, and the government, under its 'zero Covid' policy, has imposed lockdowns in various economic hotspots, including Shanghai and Wuhan. This has led to a fall in demand as well as production.

The country barely escaped a contraction in the second quarter, growing just 0.4 per cent.

However, one of the biggest concerns that stare China in the eye is the real estate crisis. Big property developers are facing a massive shortfall of money, dragging down the sector along with prices and the demand for housing.

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What is China's property crisis?

The real estate sector is among the most crucial sectors of the Chinese economy. According to a report by Economic Times, it accounts for 29 per cent of the total gross domestic product (GDP) and 30-40 per cent of total bank loans.

Also, 70 per cent of the household wealth in China is stored in property.

In 2020, China implemented the 'three red lines' policy. Under the policy, if a company had a debt-to-asset ratio of 70 per cent or higher, they were prohibited from taking further loans from banks.

Also, the companies must maintain a 100 per cent cap on net debt to equity and enough cash on hand to satisfy short-term borrowings and debt.

In 2021, the Evergrande Group, the country's biggest real estate developer, announced that it would default on its debt obligations. It had outstanding loans worth $300 billion.

The company had over 2,00,000 employees and had constructed 2 per cent of all the buildings in the country.

Around 1.5 million people in China had booked homes with the Evergrande as of September 2021. 

With the change in rules, the company failed to get additional debt from the banks. As a result, it could not deliver the promised homes to over a million home buyers.

Along with Evergrande, several other real estate companies like Fantasia Holdings, Sinic Holdings Group and Sunac Developers also announced the failure to deliver the promised homes. Sunac is China's third-biggest real estate company.

In July, home buyers in China announced a mortgage payment 'boycott' because they were not getting their promised homes promised. The demand for new houses fell, and the property rates contracted.

This has further pushed the banks into distress. In July, the drop in the sale of new homes in China further deepened to 28.9 per cent, and the new investment in property tumbled by 12.3 per cent. The home prices fell 0.9 per cent, the sharpest since September 2015, according to AlJazeera.

ING, a global financial services company, downgraded China's GDP growth forecast for FY23 from 4.4 per cent to 4 per cent.

With the property crisis deepening and Covid-19 cases rising, what happens to the Chinese economy remains to be seen.