The order to liquidate real estate giant China Evergrande is just one step toward addressing China's debt crisis

BANGKOK – A Hong Kong court's order to liquidate China Evergrande, the world's most indebted real estate developer, is just a preliminary step toward resolving a debt crisis that is ravaging financial markets and weighing on the Chinese economy.

Evergrande owes its creditors $340 billion. Experts say it is unclear whether Monday's order will be enforced in mainland China, where the company and 90% of its assets are based. Lenders within China already have claims on most of these “onshore” assets, and Beijing is likely to give them preference.

The Hong Kong Supreme Court's decision is also no remedy for the crisis of confidence plaguing China's financial markets.

Liquidators acting on behalf of creditors in the Hong Kong case “will have a relatively easy route to recovering offshore assets,” said Brock Silvers, managing director of Kaiyuan Capital. “But the company has very few offshore assets. Almost everything is onshore and the powers of insolvency practitioners are simply not recognized onshore.”

Officials have made it clear that their priority is to satisfy claims for prepaid housing that developers have not delivered, Silver said. “And even after that, it would be the onshore creditors’ turn. So once you get to that stage, there is nothing left to go to the offshore creditors,” he said.

Such concerns appeared to resurface a day after the court issued a liquidation order after Evergrande failed to reach an agreement with its creditors. Markets in Hong Kong and Shanghai fell on Tuesday as share prices of property developers fell.

Hong Kong's benchmark Hang Seng fell 2.3% and the Shanghai Composite Index fell 1.8%. Country Garden, one of the largest real estate companies to default on its debts, fell 5.7%. Sunac China Holdings fell 7.1% and Guangzhou R&F Properties fell 4.6%.

Over the past year, Hang Seng has lost almost 30% of its value. The Shanghai Composite fell more than 13%.

The impact of the housing crisis coupled with ongoing damage from the coronavirus pandemic has hurt China's economic recovery and is expected to push growth below 5% this year.

While Evergrande's liquidity crisis accounted for a large portion of the liabilities that developers defaulted on, China's financial woes are not limited to the real estate sector. Many Chinese financial institutions and local governments are also in a bind.

Overall, outstanding real estate debt was estimated at 60 trillion yuan ($8.9 trillion), equivalent to nearly 50% of China's GDP in 2022, the Swiss Re Institute, a private research firm, said in a recent report.

So far, such risks have only shaken the financial markets without causing major upheavals. Chinese state-owned banks and other domestic companies own most of the debt of Chinese real estate developers. Some developers have already struck deals with their creditors both inside and outside China, pushing total real estate debt to 30% of GDP by last year, Swiss Re's report said.

David Goodman, director of the University of Sydney's China Studies Center, said he believed China's housing debt was unlikely to trigger a major financial crisis. “The fact is that the Chinese financial system is not as open or as market-oriented (as in the United States),” he said.

Mortgage foreclosures pose a lower risk in China than in the United States. Although foreclosures have increased, Chinese homebuyers are generally required to make down payments that cover most of the cost of their purchase.

Home sales fell nearly 20% in 2023 compared to the previous year, while home prices fell 6%.

The government has gradually taken measures to ease pressure on the property market, freeing up more money for financing while limiting the use of such loans for new property investments. It also called on banks to better manage risks, leading to a crackdown in 2020 on excessive borrowing that helped create the crisis.

The latest policy initiatives were expected to unlock about 1 trillion yuan ($140 billion) in funding – just a small fraction of the total owed – to help developers cover operating costs and pay down debt.

The question is whether banks will choose to lend to developers and how real estate companies can balance debt repayment with the need to complete ongoing projects.

The inventory of unfinished housing is estimated at around 20 million units. At least another 65 million housing units are reportedly unoccupied. Meanwhile, the government has increased spending on affordable housing and urban regeneration.

While China's banks are generally in good shape, with ample reserves and a small amount of loan defaults, the entire financial system is in a more precarious state.

Local governments with an estimated total debt of 100 trillion yuan ($13.8 trillion) have lost a key source of revenue due to a decline in land rights sales – one of the biggest risks in the system.

And many nonbank financial institutions, including so-called shadow banks, which act as lenders but are not subject to the same supervision as banks, rely heavily on real estate loans and have been declared insolvent.

Zen Soo reported from Singapore.