Evergrande and other ”accidents” in China – not really a conundrum

07:57 by Hubert Fromlet, Kalmar

China’s international reputation has obviously lost further ground in the course of 2021, to a high extent caused by increasing state interventions in people’s privacy and activities of many (foreign) companies. Such a policy orientation counteracts, of course, a necessary structural reform that China badly needs – the improvement of transparency. Lagging transparency is a major shortcoming that I have pointing at for many years (see, for example, my article published already eight years ago by BOFIT in Finland  (https://helda.helsinki.fi/bof/bitstream/handle/123456789/12599/172270.pdf?sequence=1&isAllowed=y).

The debt problem includes massive corporate debt

The source mentioned above puts focus on the insufficient transparency of government debt, both concerning central and local government debt. I have the uncomfortable feeling that my conclusions from 2013 fully remain in place. Looking at data from the multinational central bank BIS (where China is a member) reveals that China roughly doubled its total-debt ratio to GDP in the past decade, nowadays more than 160 % only for corporate debt – a ratio that in my view is underrating reality but impossible to measure exactly in a country like China.

Why? There are so many implicit corporate debt obligations outside accessible and readable corporate balance sheets that any good estimate of total corporate debt and, consequently, total domestic debt seems to be impossible. Even if one applies the debt numbers of the Chinese governmental think tank National Institute for Finance and Development (NIFD) – 270 % of GDP at the end of 2020 – it still would be an awful number. However, this number still seems to be too low. It should be clearly higher (by the way, Sweden’s debt total number is even higher).

Unfortunately, I do not see any chance to make a reasonable guestimate myself but I note that the BIS for Q4 last year noted China’s total debt at 289,5 % of GDP (https://stats.bis.org/statx/srs/table/f1.1) – 20 percentage points higher than the NIFD number). Find more financial statistics for China at FRED  –> (https://fred.stlouisfed.org/tags/series?t=china%3Bdebt&ob=pv&od=desc).

What will happen to Evergrande?

Anyway, whatever China’s real debt may be in relation to GDP, the shortcomings in transparency should have strongly contributed to the immense debt problems in the second largest economy in the world (in USD terms) – and previously also to other “accidents” in the Chinese economy. Most domestic investors in troubled Evergrande had certainly no clue about the enormous debt burden of this gigantic real-estate company. These people are angry. How many more Chinese real-estate companies are in the concrete risk zone as well?

The Chinese political leadership faces in the 100th anniversary year of the Communist Party a completely undesirable dilemma if the situation for Evergrande worsens further:

¤  to save Evergrande for avoiding social unrest, contagion to other real-estate companies, bank problems (NPLs) and bank runs, and possibly also turmoil on bond markets  or

¤  to react in the tough way by demonstrating that not all companies in major troubles will be rescued in the future.

Sure, I cannot give a well based answer on the possibly necessary political solution of this dilemma when writing this blog. However, my historical feeling about Chinese reactions on serious problems tells me that the first alternative seems to be the most probable. On the other hand, the verification of the second alternative would be a major surprise and at the same time meaning a kind of reversal to a more market-oriented Chinese policy approach in a very sensitive issue.

For the time being, global financial markets will watch the ongoing development of Evergrande very carefully.

Hubert Fromlet
Affiliate Professor at the School of Business and Economics, Linnaeus University
Editorial board

 

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