Monday, July 8, 2013

The Reason For China's Epic 1 Trillion Yuan Deleveraging: The Biggest Housing Bubble Ever

by Tyler Durden

Those reading Bloomberg stories tonight may be surprised to find for the first time the mainstream media attempts to quantify the epic deleveraging that China - the economy which has only grown in the past decade due to constant and unprecedented credit injection - has decided to undergo in numeric terms in order to forcibly reallocate capital where it deserves to be allocated.

To wit: "China’s money-market cash squeeze is likely to reduce credit growth this year by 750 billion yuan ($122 billion), an amount equivalent to the size of Vietnam’s economy, according to a Bloomberg News survey. The number is the median estimate of 15 analysts, whose projections last week ranged from cuts of 20 billion yuan to 3 trillion yuan. The majority of respondents also said they approve of the government’s handling of the credit crunch and said the episode reinforces their expectations for policy reforms such as loosening controls on interest rates." We shall see how much they approve when the massive deleveraging results in a 3% GDP print as we warned previously, crushing their year end bonuses in the process.

Of course, those who read Bloomberg tonight and who read Zero Hedge two weeks ago, already know just how big the Chinese deleveraging will be (in an optimistic case). On June 23 we said:

The country is about to undergo an unprecedented deleveraging that could amount to over CNY1 trillion in order to force reallocate capital in a more efficient basis.

That's right: a massive deleveraging coming dead ahead in China just in time to shock the market still reeling from the threat of the Fed's tapering. And it is not as if China needs to be spooked any more: "The mood remained jittery at the weekend. When a technical glitch caused by a long-planned software upgrade at Industrial and Commercial Bank of China made cash withdrawals impossible for almost one hour at the bank’s ATMs, many consumers fretted that one of the biggest state lenders was in trouble." Maybe not today, but force deleverage a few hundred billion, and it sure will be.

It also means that there will be no respite for short-term funding, which while maybe not suffering from lack of money, it certainly is suffering from the lack of money in the right place: the first milestone of a failing central-planning regime.

Just as China finally admitted.

At least the mainstream curve is now just down to two weeks behind tinfoil blogs.

However, one question that Bloomberg did not answer is just why is China engaging in the kind of counter-monetarist activity, that would result in an epic market collapse were it to take place in the US, Europe, the UK, Japan, or any other "developed" country whose growth now relies exclusively on central bank generosity.

Presenting Exhibit A: China's residential real estate prices, via JPM.

So there you have it: no matter what China has attempted, no matter how much it has punished the Shanghai Composite, it has been completely unable to offset the endogenous and/or exogenous (Fed, ECB, BOJ hot money) credit from sending the Chinese housing bubble into absolutely stratospheric levels.

It is this bubble that the PBOC is doing all it can to deflate gradually and controlably, lest it pops in the biggest out of control bubble burst in developing market history.

And while we have covered all of this in depth in the past, the Telegraph's  Harry Wilson has done an admirable job of compiling the key aspects that determine the Chinese marginal economy at the moment with "Chinese banking: a Wild West in the Far East?"

As Government ministers ponder whether to split Royal Bank of Scotland into a “good bank” and a “bad bank”, it is worth remembering that China did something similar with not one big lender, but four at the turn of the millennium.

In October 1999, a month before Fred Goodwin began his ill-fated reign as chief executive of RBS, the Chinese government created four massive “asset management companies” that would eventually take on toxic loans valued at $480bn (£320bn).

Thirteen years on, these bad banks still exist, operating out of office blocks dotted around Beijing and Hong Kong, and continue to hold non-performing loans worth Rmb1.7 trillion (£180bn), according to credit rating agency Moody’s.

Largely unknown to the outside world, they are a reminder that China’s banking system remains as prone to boom and bust as any Western economy and perhaps more so.

As the rescue showed, the “Big Four” banks were, and are, not just “too big to fail”, but the beating heart of the entire Chinese economic system, controlling nearly half the country’s $19 trillion of financial assets.

Taken together, the four largest lenders, Industrial and Commercial Bank of China (ICBC), China Construction Bank, Agricultural Bank of China and Bank of China have a combined market capitalisation of £470bn, about £200bn more than the total value of Britain’s five largest lenders.

ICBC alone has 393m individual customers, the equivalent of a single bank managing the bank accounts of every man, woman and child in western Europe, and this year became the first Chinese lender to top The Banker magazine’s annual table of the world’s biggest banks by market value, with a total capitalisation of $236bn. Ranking the world’s banks by profits made, the top four positions are now taken by China’s behemoths. Hold on everyone, the Chinese are not coming, they have arrived.

Despite paying negative savings rates — the 3.5pc base rate interest on Chinese deposit accounts is generally believed to be well below the real rate of inflation — 70pc of Chinese household wealth is held in cash and bank deposits. Just over a third of India’s private wealth is kept in its banking system.

With this largely captive market, citizens’ savings have been used to fund an infrastructure and property boom on an unprecedented scale and led to warnings of an asset bubble.

While official figures show a 113pc increase in property prices in the past eight years, research by Tsinghua University and the National University of Singapore found prices actually rose by 250pc between 2004 and 2009, a faster increase than was experienced by the US in the lead to the sub-prime crisis.

Carson Block, of Muddy Waters Research, which has laid bare several accounting scandals in Chinese companies, thinks the problems in China’s banking system are more severe than those which kick-started the global crash in 2008. “We believe that the domestic Chinese banking system is a mess, with an enormous amount of bad loans, or loans waiting to go bad. The problems of China’s lenders are greater than those of Western banks on the eve of the financial crisis,” he says.

So, as Chinese lenders take their place at the pinnacle of the world’s banking system, the warning appears to be that things could be about to go very wrong, very quickly.

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