Evergrande Crisis of China

GS-2: Effect of policies and politics of developed and developing countries on India’s interests

Context: Recent global markets rout, including a sharp decline in Indian stock market, was triggered by two events.

One, the fund crisis at Evergrande, China’s biggest developer which could potentially spiral into a global financial contagion.
Two, US Treasury Secretary Janet Yellen’s warning of an “economic catastrophe” if American lawmakers failed to increase a legally-imposed debt ceiling. There are also concerns of US Federal reserve taking steps to reduce its liquidity push program (reduced liquidity -> reduced inflow into emerging countries as FII/FDI -> Stock markets decline)

What’s the crisis at Evergrande?

Evergrande, a company that started out in 1996 selling bottled water followed by a stint in pig farming, now owns China’s top professional soccer team and has long been the poster boy of the Chinese real estate boom.
The main driver of the post-pandemic Chinese economic expansion has been real estate sector. Consequently, Evergrande rode on a sustained property prices surge in China to expand into more than 250 Chinese cities selling home-ownership dreams to the country’s middle class.
There were two immediate triggers that precipitated the crisis at Evergrande.
Chinese regulators, as part of a widespread crackdown on sectors such as the digital economy and education, started investigations into the high borrowings of property developers.
To counter that, Evergrande tried selling off some of its business. But a progressive slowing down of China’s property market and reduced demand for new houses adversely impacted its cash flows.
The company is now struggling under a $300 billion liabilities burden that has reduced its credibility and decimated its share price.
It is faced with nearly 800 unfinished residential buildings, many unpaid suppliers and over a million home buyers who have partially paid for their properties.

Does the Evergrande crisis trigger systemic risks?

There are two factors here.

One, China’s control of virus spread & quickly restarting its industries has played an instrumental role in the post-pandemic global economic recovery. Therefore, China effectively emerged as the key driver of the global commodities upcycle.
Second, China’s extended property boom that started in the mid-1990s has now ensured that nearly three quarters of the country’s household wealth is locked up in housing. Any collapse at the biggest real estate company could have a serious knock-on effect on the entire economy, dragging down its growth and potentially setting off a cascading impact on the global commodities and financial markets.
There are also concerns about Huarong, a Chinese state-owned financial conglomerate that has liabilities of nearly $240 billion. Huarong is reported to be in trouble as well, escalating the perception of a wider systemic crisis in China.
But there are also indications that Chinese Communist Party will provide adequate supportive measures so as to ensure that the crisis at both these companies does not spiral out of control.

Impact on India

India’s buoyant iron ore exports, much of which is headed to China, could also see an impact if the twin crises in China triggers an extended slowdown in the Chinese real estate market.
And there could potentially be a sustained impact on global growth prospects, hurting the economic recovery that is underway in markets such as India.

Connecting the dots:

Sign Up To Receive Regular Updates