A Real Estate and Banking Crisis in China?

While not getting much attention by the western media, a financial crisis is building in China, which could possibly lead to the collapse of the Chinese economy, and either the end of government rule by the Chinese Communist Party (CCP) or a sudden military adventure by the CCP in an attempt to distract the Chinese people from the financial crisis inside of China.

The Chinese Communist Party came to power by promising the Chinese people a higher standard of living.  In order to provide this higher standard and living, and to remain in political power, the CCP opened up its economy to the West in 1978.

China’s GDP in 1978 was $149.5 billion.  After China opened its markets to a free economy in 1978, the growth rate of the Chinese economy was nothing short of phenomenal.  In 2021, China’s GDP was $17.7 trillion.  The main reason for the explosive growth of the Chinese economy was that it’s economy in 1978 was bankrupt, and had no place to go but up.  

While China’s economic growth has been impressive, it has relied specifically on “Steady State Growth.”  Steady State Growth relies on continuous and increasingly amounts of economic inputs to keep its growth rate.  Once the inputs into the economy level off or stagnates, the growth rate suffers, and a decline in the economy is inevitable. 

In contrast, western economies are subject to the “Non-Steady State Growth” model by the Solow-Swan economic model.   Non-Steady State Growth is where a technological change in production increases the productivity of the economy, which causes the supply curve of a particular good or service to shift to the right on a Cartesian coordinate system, which increases demand for that good or service at a lower price.  Such an increase in a supply of a good and/or service increases that countries GDP without the use of additional economic inputs.  The non-steady state growth rate continues until the new technology become the new normal, whereupon the non-steady state growth model transitions back into a steady state growth model.

China is not able to experience this type of economic growth due to its lack of an impartial judicial system in China to fairly and impartially adjudicate contract law conflicts.  Because of this, the current Chinese economy depends on increasingly more and more economic inputs to increase meaningful economic growth.

Money As a Political Good

In the West, and throughout most of the world, money is an economic good.  Money in the West is governed by the philosophy of a return on investment which creates more wealth.  Money is used as an intermediation between buyer and seller. 

In China, according to the geopolitician Peter Zeihan, money is considered by the CCP as a political good.

According to Mr. Zeihan “Investment decisions not driven by the concept of returns tend to add up. Conservatively, corporate debt in China is about 150% of GDP. That doesn’t count federal government debt, or provincial government debt, or local government debt. Nor does it involve the bond market, or non-standard borrowing such as LendingTree-like person-to-person programs, or shadow financing designed to evade even China’s hyper-lax financial regulatory authorities. It doesn’t even include US dollar-denominated debt that cropped up in those rare moments when Beijing took a few baby steps to address the debt issue and so firms sought funds from outside of China. With that sort of attitude towards capital, it shouldn’t come as much of a surprise that China’s stock markets are in essence gambling dens utterly disconnected from issues of supply and labor and markets and logistics and cashflow (and legality). Simply put, in China, debt levels simply are not perceived as an issue.”

In China, money is a political good, and only has value if it can be used to achieve a political goal. That political good is maximum employment. 

The concepts of rate of return or profit margins do not exist in China, and therein lies the danger; eventually the law of supply and demand will win out, and the Chinese economy will have to face a correction. The longer it takes to face this economic correction, the greater damage that the inevitable correction will cause to the Chinese economy.

The Chinese Real Estate Market is in Crisis

The default by the massive real estate giant China Evergrande Group in December of 2021 foreshadowed the slow-motion train wreck of the Chinese real estate market.  While teetering on default, state owned enterprises in China cherry picked assets of Evergrande and took them over with cash and in some instances assuming the debt of those assets with the blessings of the Chinese state government.  Because of Chinese law, the international debt is what is known as ‘unsecured’ and issued by a Hong Kong offshoot, meaning creditors do not automatically have the right to seize anything on the mainland, where Evergrande has almost all of its 1,300 projects.  There is little prospect that overseas investors will be able to recover their investment because of this law.

In July, an article in the British news organization Reuters detailed the continuing crisis of the real estate market in China.  According to the article, homebuyers in 22 cities inside of China are refusing to make mortgage payments on unfinished condos and apartments.  According to Dan Wang, chief economist for Hang Seng Bank China…”If tens of thousands of homebuyers really stop paying their mortgage, the real estate companies will soon collapse because they have no liquidity, there are huge risks for banks, particularly local banks, whose assets are mainly in the housing market, and there is no way that the central bank could save all of them.”

Those protestors are in danger of being punished under a government system called “social credit” which rewards what is considered good behavior by Chinese citizens, and punishes bad behavior.  The refusal of frustrated Chinese families to pay for a mortgage for an apartment or home that may never be built, indicate the level of anger among thousands of Chinese buyers, and is bleeding over into the developing banking crisis in China.

A Developing Banking Crisis in China

On July 10, 2022, in the Chinese province of Henan, in the provincial city of Zhengzhou, a crowd numbering about 1,000 people clashed with the police in front of a branch of the Chinese Central Bank protesting their deposits being frozen by the bank.

The freeze on the bank’s deposits began in April of 2022.  Depositors were not able to withdraw their money from the bank from that time on, despite promises that their money was safe.

The clash on July 10th, resulted in many protestors being attacked and being beaten by unidentified men, which were later identified as government police, and then detained in detention centers.  The protestors were released later on that afternoon.  The next day, authorities announced that some monies would be released with a maximum amount of 50,000 yuan ($7434 in USD).  Authorities announced that deposits frozen above this amount will eventually be released, though no information as to the how and when was given.

The bank, one of some 1,600 village banks, have been under pressure as a result of the slowdown in the Chinese real estate market.  Many banks and financial institutions are heavily invested in the Chinese real estate market, and with the slowly collapsing real estate market, the damage is slowly seeping into the Chinese financial sector.

To juice its economy, China has announced a $1.1 trillion (USD) infrastructure package.  This is an example of the Chinese economy adding inputs to its economy to spur growth, but the input is simply more debt.  The stimulus package will depend on bonds, which provincial banks are supposed to invest in.  Given the illiquidity of the smaller banks, this may prove to be a daunting challenge.

With the real estate market in crisis in China, and with collateral damage leaking into the Chinese banking industry, with funds being frozen to where the depositors cannot gain access to their capital, a serious crisis in real estate and banking is developing in China. 

With the crash of the real estate market in China, and the beginnings of a crash of the Chinese banking system, it appears that the inevitable economic correction has arrived.

Richard E. Caroll
Richard E. Caroll
I am a retired economist, and a retired soldier. I have a degree in Economics and a degree in Liberal Arts. While in the military my specialty was in Intelligence and Administration.