The real estate crisis in China is apparently spreading to the financial sector. A leading provider of trust funds, which real estate developers have relied on in the past, is experiencing liquidity problems.
The crisis in the Chinese real estate market is apparently slowly spreading to the country’s financial sector. According to insiders, Zhongrong International Trust, one of the leading providers of the trust funds that are widespread in China, has admitted to investors “short-term liquidity difficulties”. Since the end of July, the company has also suspended repayments on dozens of its products, according to an attendee of the meeting with investors.
real estate developer bet on money from shadow banks
Zhongrong has traditionally been heavily involved in the real estate market. Manager Wang Qiang received dozens of investors at the company’s headquarters in Beijing at the beginning of the week after companies reported missing payments over the weekend. He made it clear, according to one participant, that Zhongrong currently has no intention of meeting its repayment obligations and acknowledged that some trust funds with short maturities of three to 12 months have used funds raised to repay older products.
Angry investors have criticized the pooling of funds from different products – a practice that the government has been trying to stop for years. According to the participant, Wang said the company complies with the regulation and has registered its products with the authorities as required. The provider will present a plan for repaying the funds, either through the sale of investments or a debt restructuring.
Many real estate developers had relied on the money from the trust funds (trusts), which are counted among the unregulated shadow banks, in their almost unbridled expansion in recent years. The funds primarily divert money from banks into the real estate sector and other industries.
real estate crisis not over yet
Since the 1990s, construction has been going on in China at breathtaking speed. At the same time, real estate prices rose dramatically. In metropolitan areas, the prices for residential real estate have multiplied within a few years. This has made the industry an important pillar of the Chinese economy. The real estate sector, which includes developers and landlords as well as speculators, accounts for around a quarter of gross domestic product (GDP).
Because many construction projects in the Corona crisis did not make any progress for months and real estate prices fell drastically, the industry has been in crisis for around two years. In 2021, the imbalances of China Evergrande and Sunac China made headlines around the world. Most recently, hope rested on the Communist Party’s Politburo, which at the end of July promised support for the ailing industry in the near future.
But little has happened so far. On the contrary: the crisis is far from over. It recently became known that Country Garden is also in a financial bind. One of the country’s largest real estate developers defaulted on two interest payments on loans and suspended listings on about a dozen bonds. Add to that Evergrande’s huge mountain of debt, which emerges from long-delayed balance sheet data for the past two years.
Is Beijing “allowing market forces to take effect”?
Zhongrong’s troubles are now raising fears of contagion and calls for the state to grow louder. “It’s all connected, the contagion is already happening and there is a high risk that it will spread further,” said Yan Wang, China strategist at Alpine Macro. “The government must act quickly and aggressively to contain the risk.”
Investment bank Barclays expects regulators to step in if market conditions deteriorate significantly. In the past, China has tried to get such problems under control with state financial injections. But since the investors in the trusts are primarily wealthy private individuals and companies, the authorities are more likely to “let market forces take effect,” Barclays suspects.
Since 2017, the government in Beijing has targeted the shadow banking sector in the interest of greater financial stability and is trying to regulate it more and downsize it. At the end of last year, the investments in the trusts totaled 21 trillion yuan (almost three trillion dollars) – at least 20 percent less than five years earlier. The trusts had invested 1.2 trillion yuan in the real estate sector alone. That was minus 30 percent compared to the previous year.
Investor losses could further weaken the economy
The problems are unlikely to be limited to Zhongrong, but will soon spread across the fiduciary industry, said Arthur Kroeber of Gavekal in New York. The government will get this under control without the whole thing blowing up. “But this is a long-drawn-out, slow-simmering problem.”
The investment bank Nomura fears that a wave of trust fund bankruptcies will affect the economy. If individual investors suffered losses, this could curb the propensity to consume. The Chinese economy is already suffering from weak industrial and retail data and rising unemployment. China’s GDP had only increased by 0.8 percent from the first to the second quarter of 2023.