ALEX BRUMMER: Rickety foundations of Chinese finance haunts us all

After a week when the nation has been unhappily exposed to Britain’s appalling energy security, events 7,000 miles away in China may appear remote from ordinary lives. 

As we learned from Covid, what begins in China should never be ignored. The potential implosion of the Evergrande property empire is not life-threatening. 

But there is a risk that, similarly to the collapse of Long-Term Capital Management in the 1990s and Lehman Brothers in 2008, it could develop into a financial shock. 

A sign of the times: As we learned from Covid, what begins in China should never be ignored

China’s remarkable emergence as the world’s second-largest economic power unleashed a Wild West-style capitalism as far from Marxism as one could imagine. 

The current supreme leader Xi Jinping is clear that he thinks rampant capitalism has gone too far. In the last ten days President Xi has sought to crush the money-leaking casino culture of Macau and tackled the exuberance of bitcoin and crypto-currency. So far he has shown minimal inclination to regard a collapse of Evergrande as a case of too big to fail. 

What those of us in the West will recognise is that most financial crises have roots in property. There is a propensity among bankers and speculators to think that the only route for the price of real estate is northwards. 

Evergrande casts a light upon how very little we know about China’s byzantine financial system. It shows why Western institutions need to be super-cautious about becoming too entangled. 

Banking assets in China are estimated at $50trillion (£36trillion) and that’s before the enormous and unregulated shadow finance system is considered. 

Credit provided to households and consumers rocketed from 178 per cent of total output a decade ago to 287 per cent today. 

Evergrande is at the vortex of this credit tornado. It owes $305billion (£223billion) to lenders, and investors fear a collapse could send shockwaves through Chinese markets and beyond. The origins of the current precariousness is a debt ratio cap imposed on the Chinese property sector last year. 

The restrictions forced Evergrande and others into a sale of land in a falling market as they sought to meet new rules. 

The clampdown is having a destabilising impact in China and Hong Kong not dissimilar to the US sub-prime mortgage meltdown which was at the core of the 2008 financial crisis. 

Local governments in China are estimated to account for 89 per cent of government spending. They derive 40 per cent of their revenues from land sales. 

A hit to underlying asset values and loans made to real estate projects could cascade through the whole economy, potentially triggering a series of collapses. 

The only encouraging aspect of this is that Evergrande’s debt, unlike the repackaged and securitised mortgages of 2008, does not appear to have been scattered across global banking system like cluster bombs ready to detonate at the same time. 

A relatively modest $20billion (£14.6billion) of the debt is reckoned to be with offshore banks. 

A default would mean some very damaging write-offs for regional lenders but should be containable. 

It is the impact on global confidence which is most worrying and at times in the last week, as payments have been missed or made, markets have been roiled. 

China’s central bank has sought to limit disruption by following the classic remedy of injecting cash into the money markets. 

Evergrande has missed a critical bond interest payment and stands on the brink of default. The rickety foundations of Chinese finance haunt us all.

Georgieva’s error 

China could cost the managing director of the International Monetary Fund her job. 

In her previous role as chief executive at the World Bank, Kristalina Georgieva is accused of pressurising staff in 2017 into boosting the country’s position in the ‘doing business’ rankings – an effort to court Beijing as the Bank sought new capital. 

Even innocent observers could not but notice how successive leaders of both institutions have curried favour by obsessively calling on state-controlled Chinese media at press briefings on the global economy. 

Georgieva disputes the findings of an independent report by a law firm. But integrity of research and data lies at the core of what the Bretton Woods institutions do. 

The Economist magazine is leading a campaign for Georgieva’s removal from office. Next month’s virtual annual meetings could seal her fate. 

This post first appeared on Dailymail.co.uk