This Is the Evergrande Endgame as China’s Property Problems Spread

seven hundred million dollars. But here's the weird thing. For a brief moment this week, it seemed like people investors were getting more optimistic about the Chinese real estate space. We actually saw a pretty dramatic rally in dollar bonds from junk rated property developers because there were some reports that China would make it easier for property companies to

get cash from pre sales of developments. And then of course we saw China lower its interest rates earlier this week, which you know, obviously monetary easing is going to be good for housing. So there seemed to be these really opposite push pull factors at the moment, and no one seems to know quite what is going on in the space. I have to say, I kind of missed, you know, in all the my scanning of the news, I actually kind of missed the optimism period you were talking about

because every time, I mean it was only a day. Okay, we're back to pessimism already, because I have to say, like every time I read like you know, obviously look at uh sort of like Q four of last year, we're talking a lot about ever Ground and the trouble they were getting into, and it feels like since then things have metaestasized, more developers getting into trouble, more fears of default, maybe companies that were perceived as a safer

credit risks than ever Grand was getting into trouble. So it really feels that the big story, or at least every time I look into it, it's like this situation is getting worse. Yeah, So we haven't really seen an extreme financial crisis like a Lehman moment that some people were talking about, you know, late last year. But we have seen contagion in the sense that we have seen spreads on other junk rated dollar bonds go up quite

a bit. But really, I think the question no one quite knows yet is what exactly is the end game here? Like what exactly is China trying to achieve. Are they going to provide policy support for property developers or are they going to reform the market and let the weaker players fail. So today I'm very pleased to say that we have the perfect person to come on and give us an update on what's really going on in Chinese real estate. We're going to be speaking with Travis Lundie.

He's an independent analyst who publishes on the smart Karmat platform, and of course we had him on the show last year to talk about China Evergrand, which has since then finally and officially defaulted on its debt. So, Travis, thank you so much for coming back on the show. Thank you for having me. I'm trying to think where to begin because there has been so much going on in the space, But maybe just to start, you can give us an update on I guess, the current situation around

Chinese property developers. What have we seen since we last spoke to you and since Evergrand actually defaulted. Okay, if we take it back a little bit further back to when we last spoke, and I can I think we can use ever Grand as a kind of case study for the way other developers have also seen deterioration, and because ever Grand is so large, it effectively encompasses the

size of several other smaller developers who might default. The loan interest payments were not made on domestic bank loans. It appears trust loan repayments were not made. Wealth management products have not been repaid at their maturity. At some point in late Q three to early q four, something like half of the projects that ever Grand was working on had been at sea work suspended. At that point, we've seen a certain amount of positioning. People are positioning

for the fall. Local governments started looking at taking back land. Ever Grant was trying to reduce its its debt by delivering assets, selling assets to other developers, selling assets to local government affiliated s o ees. Basically none of that worked. Eventually, ever Grand ran into problems paying its coupons on its offshore debt, paid a bunch of them late. It got an extension on a guarantee on a private debt which people did not know existed. That extension required delivery of

certain documentation from a municipal government. That documentation didn't derive. The bond holders demanded repayment. That came with the great end of a grace period of another coupon, and you know, Evergrhanad just tossed in the towel and said, you know, we're not paying. That triggered an event of default on the on the offshore notes, all of them. Uh. And since that time it hasn't made any sense to pay any of the other coupons or redemptions on the offshore notes.

And so you know, people are looking at these and saying, woo, they didn't pay that coupon, or maybe they're not going to pay that redemption at the end of this month. Well they're not going to. They can't simply decide to start repaying these things without paying back the other ones.

In the meantime, the onshore bonds are seeing pressure. There was an effort to extend the repayment on some onshore bonds last week that was successful, but it's not sure how much of that was effectively prodded by local authorities. You either extend or you get nothing. When the Jumble Fortune redemption missed, that triggered you know, considerable upset in local circles, and a working group was dispatched and they

set up a new risk management committee. That work group is very similar to the way H and A group was resolved in February two after years of debt issues and over investment which had gone sour and some you know, likelihood of missed payments in Q one two, the high non government sent in a working group. And this is you know H and A says, we will request you to send in the working group, and that's the official story.

What really happens is, you know, the local government says, we would like you to request us to send in a working group, and they say yes, sir, So they send in a working group, and that working group chairman became the new chairman of the company. And the goal was quote to diffuse risks and safeguard the interests of

all parties. And so that's the risk management part. And given that the local government in every grand's case has been tasked with sorting out all of the claims, financial and otherwise, its involvement is key to safeguard the interests of all the parties. And so if we look at the H n A process, we can look and we can see that there's a possibility that EVERGRAND turns out roughly the same way. H and A basically went into a kind of suspended animation. Bond holders didn't know what

was going on. Non strategic assets which could be sold were sold to non local parties that raised a little bit of cash. The local operating businesses continued running and you know, at a negative earnings rate. The working groups spent basically a year figuring out where all the bodies were buried and what needed to be done. And in February two thousand twenty one, the company filed for bankruptcy. That got the court officially involved in the working group.

Managed company could then solicit sponsors to take over the businesses and the assets, and they took all three hundred assets and and companies bunched them into a group of four and then said please bid. And it was the bids which were presented which proposed breakdowns of how much each of the creditor classes got. And that meant that you know, people who were who didn't have money, they were waiting to get repaid. It took them a long time to get repaid. And I think that ever Grand

is going to be in much the same situation. Instead of three units, it has you know, a thousand units. Right now, everyone is quote unquote cooperating U and the highest goal here is to just keep on working, building, finishing projects and delivering them. The home buyers, you know, homebuyers and local governments are the protected classes here. Importantly, they're also the way that cash eventually gets back to the Onshore Real Estate parent company. So without these projects continuing,

there's no resolution on the other end. That progress rate is now up into the nineties, and there will be positive news because every grand will say, you know, we're doing this, we're doing that, and the negative news simply doesn't come out. So Tracy said something interesting in the beginning, and it's something to the extent of like, well, what is the Chinese government attempting to achieve here? What is

the endgame? Which to me raising the question of like, okay, how much of what we've seen over the last several months is the result of some policy aim versus some sort of unintended consequence of something that was not the aim at all. And so when you look at what's transpired, and you know, as we haven't had anything like Lehman, but it's certainly been messy. There's certainly been a lot of pressure on the protected groups of homebuyers and local governments.

How much was this a goal versus how much was this a unfortunate side effect of aiming to achieve something else. That's a really good question. I'm not sure I have a good answer for that one, and if I did, I'm not sure I could say it. It's pretty clear this was not a policy or a group of policies which happened out of the blue. The p POC started cracking down on excessive debt at financialized developers, which included every grand at that time, in two thousand eighteen, they

warned them. At the beginning of two thousand eighteen, they labeled them in a report. At the end of two thousand eighteen, the Chairman Hua went on the tape saying we will reduce debt. He went on the tape again in early two thousand twenties saying he would reduce debt drastically in the next three years. This was a plan, and it only came to the August two thousand twenty when the p POC, the Housing and Urban Development Ministry came out and said you twelve, we need you to

abide by these new rules. These are the three red lines. And it never became official policy as far as I can tell, but everyone knows what they are. And it meant that, you know, those who were triggering two to three of those red lines, and ever grand triggered all three, there was simply nothing to do other than shrink. If you're running a business and you're growing top line and you have a hundred and you're financing at ten, that means in order to roll your financing next year, you

need to roll a hundred and ten. Well, if you've got new new assets and new obligations because you bought some land bank last year and you've got an increased number of projects this year, well, you know, to start a project, you pay off the government with the local government with your payment for the land. You have to go get debt to do that. So you go get some debt, you pay the land, you start pre selling,

You get some cash in the door. Some of that has to stay in escrow, but that debt to pay off the land at the start of a building is a kind of a bridge. You have to increase the capacity for that bridge. If you can't have any ability to increase interest bearing debt, then you have to sell stuff. It's not as much as you know buying land bank, you actually have to sell stuff. And I think that the problem is that if you do that for the

twelve largest developers, well that's going to trickle down. It's going to hurt everybody. This was not something which was an accident. There was a real design to reduce over leverage at developers. There has been efforts to reduce upward price pressure in a bunch of markets. There have been efforts to reduce excessive lending against property. They've put pressure on the banks for years to keep the cap at the allocated level or below. They get really nasty when

a bank goes anywhere near that level. So they've been reducing the leverage available in all of the domains until they got to developers. Then they finally pushed it on developers too. This was not a coincidence. Now, you know, the common prosperity theme became very popular in two thousand twenty one. It existed before that. I think most of us didn't pay quite enough attention to it. But the houses are for living in, not for speculation. That was around for even more and we you know, we didn't

pay attention to that either. I think that the the government has spent a great deal of effort to try and close off avenues of rescue. You know, the banks may find it tough to increase lending because they are at their limits. The central government made it us a part of the fifty five year Plan to increase development

and financing for local and regional rejuvenation and urbanization. And this was basically, you know, them putting money into the pot for growing the equality of of real estate access to people who didn't have that access before. However, that's a very small part of the country. It's not small

in terms of people. But the land price starts lower, the aspirations are lower, the total nominal amount spent is lower um if you increase that by but you decrease the the major urban centers by is a very large net drop. Now, the other thing is that this is this is a big part of the economy, right so it's it's some odd percent of the economy residential real estate is and that means that if you dampen its growth,

you dampen the growth of the overall economy. And another part pivot of the five year Plan was they were going to increase quality growth and decrease quantity of growth or emphasize quality versus quantity. That means that they were telling you very clearly, the stuff that we did before to get a high growth rate, we're not going to do it anymore. That's a policy decision. So I think there's there's a fair bit of effort put into changing

the direction here. I think also that it's important to notice that real estate is considered to be like the driver of inequality. So if you want to decrease inequality, you've got to decrease the inequality embedded in real estate. So I want to get into how real estate actually impacts all the various parts of the economy, including things like local government financing. But before we do, you know, you just described the response to the redlines policy, which

was basically I mean, it wasn't nothing. But the only thing that developers could really do is try to shrink sell off assets. I'm wondering, you know, even if they sell off assets, they still have these massive liabilities that they need to fund somehow. And given all the uncertainty in the market, it seems very unlikely that a lot of foreign investors are going to step into buy those dollar bonds. So I'm curious, how are real estate developers

actually funding themselves right now. I ever, Grant spent much of two thousand one extending the terms on its non interest bearing liabilities. So if you look at the interest bearing liabilities, they actually shrunk from December two thousand twenty to June two one. If you look at the the commercial bills or the trade payables, those increased. So the debt numbers, which was the intersparing liabilities portion, that actually shrunk, and they made their target of shrinking debt by a

hundred and fifty billion RMB. But that's that's doesn't help anything. If you put more suppliers on the hook and they stopped working for you, then you can't finish your project, and that's what happened in the second half of two If we ask ourselves what can replace the foreign funding, that's a good question so far. I think in this year there's something like thirty six billion dollars of redemptions of the US dollar debt for Chinese developers. That's a

fair bit. That means that that money has got to come from someplace else. It's not clear to me that banks will want to increase there lending in order to

repay they're already under pressure to not increase. If you look at what the n d r C said as a side note to the four five year plan last year, it was very clear they were going to crack down on the unconstrained growth of local government debt and hidden debt, and they were going to emphasize prudent fiscal rotation rather than monetary easing in the sector and in the growth

mix of the economy. And Lika Shine came out and said six people have been expecting a higher number, had always been a higher number, and he came out with a lower GDP target for two thow it ends up higher than that according to the stats, but the willingness to accept a lower target was seen as proof that there was a goal to to crack down on on the excesses of the quantity of growth versus quality of growth problem. In this case, it's tough to see who

picks up the slack. If you look at foreign markets, you know, the European markets or US markets, when the end user stops buying, usually it comes out to longer, more patient money buying at a discount. Oftentimes that's some kind of private equity venture where people pull their funds together, either incorporated or in a very professional fund buy the assets and rent them out and hope that they can wait for five years and sell them at a at

a markup. In August of two one, the government basically ordered the entity which approves funds to stop approving private equity funds in the residential real estate market because obviously housing is for living in, not for speculation, and that means that you won't see non developer companies coming in to buy these projects unless they can convince people that the project which they buy is for the betterment of

the company. Maybe they buy a project and develop an asset and turn it into dormitories or something like that, and they can convince the local government that it's the appropriate thing to do to further, you know, the development

of the local economy. But it's basically going to come down to s O s and s OE developers financing the purchases of assets from troubled developers, and the other place is going to have to be, you know, end users are going to have to step up and right now, you know, for the longest time, China has had a real estate market which was characterized by prices go up and demand goes up, prices go down, demand goes down.

It's a combination of a gift and good and a Veblin good, depending on whether your status is housing as a staple or housing is a luxury. In this case, the government has warned, you know, pretty clearly, we don't want you to speculate. So there goes the Veblin good. They've introduced the concept of a property tax, and the

property tax means that everybody's ownership gets registered. There are a whole bunch of people out there who don't want to be known as the owner of five different properties. And if you're if you're a communist party cadre in some regional city where you you purchased a bunch of properties at a very low price, and now you're the owner of those properties, and it's really great, and you are independently wealthy because you, your dog, your three year

old daughter, they all own properties. You don't want to have the property tax come in and suddenly have to figure out what to do. And if that happens, then that actually creates, you know, another problem. Currently the developers aren't selling as many properties as they want to, and if luxury buyers and savings buyers, investment buyers can't buy multiple properties anymore because of a they want to discourage speculation.

Then that reduces the total you know, new home sales and a property tax would invite increased secondary home sales. That's not a great thing for the market, and it's honestly not a great thing for local governments because local governments make their not by selling land to new property development. And if if new property development stops and the rotation comes from secondary property market where you know, must must sell holders transfer to new people, well the local government

doesn't take a cut of that. So it's not sure where all this money's gonna come from. It's so it's

so interesting. We just did an episode recently on the lack of inventory in the US housing market and this sort of rise of small landlords, people who might own one to three or four homes, and the same issue of like in states, California being the big one where there isn't much of a tax on property, you just get incentivized to hold and how placed, whether it's higher taxes that match the value of the home, you sort of create that churn and greater inventory. So it's interesting

to hear the same dynamic. I mean, it makes sense, but it's interesting to hear the same dynamic in China.

So that I wanted to focus on though, is you know, it seems to me when we talk about like debt, you know, there's sort of like the financial debt and the real debt and of course the financial data, the bonds and the various payments that these companies have to make, and then the real debt is of course the housing units that the companies owe to people who have put down a down payment, and it's a very big deal

if those aren't delivered in a timely manner. Talk about the connection, like, what is it that has made the actual like process of creating new units, creating new homes? What caused these sort of like the physical process to slow down such that the real debt has been difficult for some of these developers to fulfill. Well, that comes down to a financial debt actually, I mean the process basically is developer says, I got a project, I want to go bid for this land. He bids for the land.

He doesn't have to pay for it usually on day one. Instead, he pays for it in a year, or he's got a time limit says you must develop this within three years, so you know, two years and a half later he goes and starts developing. And developing means that they probably have to break ground and put a foundation in. There are different definitions depending on the different contract the developer

signs with the local government. When the local government sells the land, however, you know, land prices go up ten percent a year. If you don't have to pay until year two and a half, you can promise to pay a hundred, and land prices go up, you know, ten percent a year, let's say, and in year two and a half that hundred is now worth a hundred and twenty five. And you all you gotta do is now you've got to go fund a hundred two pay the local government, and it's worth a hundred and twenty five.

It's on your books on a hundred and twenty five. Then you go out pre sell it and because it's worth and you only paid a hundred, the bank will give you a small loan to start, you know, construction, and you pre sell it and once you get to a certain level of construction, then you can take the full payment from the mortgage and that will all go into an escrow account, and you know, different different localities have different rules on how much money can be taken

out at what point in the process. Some of them are extraordinarily detailed schedules. You know, if you if you have a height of the building of forty then when you get to seven ms and you can take out. When you get to twelve ms, you can take out a different level. And that money is meant you know, to fund the work in progress so that the end the money is out and the and the delivery is made. A lot of these processes or projects were perhaps less

well supervised then they should have been. And this is one of the things we're going to see, I think in in Evergrand. What we saw last year was that when it came out at ever Grand had taken money out of the escrow account faster than it should have. A bunch of local governments came in and started suing ever Grant to get money put back in, and they were successful and never Grand put the money back in.

But that was you know, again part of the Q two problem last year where things started going south for them as a result, you know, with the government cracking down on banks saying you have to be more prudent. You have to make sure you're not letting lending more.

They went in and did line by line on all the exposure to the major developers, including especially Evergrand, and all the local governments were you know, brought in to cooperate, and that meant that they had to you know, excuse my French, but do a c I a exercise, and

that meant that they got very strict. And one thing we've seen here very recently is that there's been a proposal in the past week or so which says that the national government will come out with a new rule on escrow accounts to supersede the local rules because perhaps the local governments have now been too strict in in releasing funds. So you've got this problem where it was

loosey goosey, and now it's much less loosey goosey. And so there's been a there's been a a swing from kind of over the curve to under the curve, and developers use that money to go speculate, like you ever Grant has a soccer team, it's building a stadium or a bunch of stadiums. It owns this, that and the other thing. There's been some large dividends paid out over years, and there's certainly been some luxury spending on expenses, and if you look at some of that, the money just disappeared.

There's just not enough money in the pot. And when the government local governments start restricting the amount of money coming out, you start being unable to pay your suppliers, and instead you pay your suppliers with a note. We said, rather than pay you cash, now, i'll pay you ten

percent more cash in three months. Well that starts that's a financial liability because if you actually have to go pay that guy in three months, well, now you need to source that cash from someplace else, and they just don't have that. They just started basically creating non interest bearing but premium payout liabilities which they couldn't they couldn't keep up with. So suppliers didn't get paid and they

stopped work. And then you know what really happened was the government stepped in and said, you will pay your suppliers in order to start these things working again, and whatever you need to do it to pay your suppliers to start working again. So you mentioned the possible change in escrow rules, and I think this was one of the things that sparked that very very brief rally that I was talking about in the intro in property bonds.

And of course this week we also saw China cut interest rates, and you know, it seems to be embarking on some sort of easing cycle, which presumably would help the property sector. I guess my question is, how do we feel about the policy response right now? Does it seem like the authorities are maybe trying to calibrate their crackdown and their efforts to reduce leverage in the opposite direction, So maybe they think they've gone too far and they need to start to roll back some of these measures.

That's a good question. I think that we will continue to see statements from the PBOC, from the c B I r C, from the Financial Stability and Development Commission, who's the you know, the top financial regulator. I think we'll continue to see statements from all of these bodies saying that China will not return to aggressive growth of real estate to bail out the on me. They've said that constantly. I think it's going to be the mantra

for a long while. The question I think we have to get to is, and I think I mentioned this The last time was you know, China is teaching a lesson, and the question is how hard and to whom are they teaching this lesson? And I don't think we've answered that yet. The beginning question here was what is the

end game? I think the end game is is a two thousand thirty to two thousand fifty outlook where we have a China is a moderately prosperous society in two thousand thirty and is a leader in global and regional markets, and is has common prosperity for all. And if you look at what Shi Jimping has said with regard to his common prosperity, this is not a two thousand twenty two thing. This is a long dated thing. So we really have to look at where the long dated end

game is. And a long dated end game for common prosperity means a reduction in inequality. And I think the question has to be asked because China has a fujie system where you have a you have your effective household registration or if you will, local citizenship based on where you live, and that really comes out to where you

were born. Uh, And the question is should Chinese people have their relative wealth and prosperity determined by where they were born, and that is a particularly un siji being kind of attitude. So I think that he's looking at that and saying, no, that's not the way it should be done. And if you look at, for example, to the changes in the education sector in the past year, that's very clearly you know, let's not give excess advantage to those who happen to have excess funds right now,

let's make education something accessible to all. And I think that he's looking at real estate much the same way. And the question here is, well, is that unfair to the people who bought all the property? Well, then the question is is that unfair to all the rich people? And I think his answer might be, well, you know, that's just one of those things. So I think if we look at the end game, the endgame is clearly a very non capitalist, non libertarian, socialist view of the

way assets should be distributed across an economy. And if I look at that, that means that there's a bunch of people who are going to hurt. And if you think about what the developers really represent and all of us, you know, there's been something like eighty billion dollars of value lost in the offshore bond markets or Chinese developers in the past year. Great well, most of the developers

are still functioning and building houses. Contract sales are down, but they are still out there everyday building houses and delivering houses to their homes to their home buyers. What has been lost has been the capital ownership of those entities. Those operating entities continue to operate and will continue to build, and as long as they fulfill a social function, then that's what the end goal is going to be. Now, capital owners and capital providers are going to take a

big hit here. They already have and I don't see it getting much better, but you don't see such pain they have to backtrack, and so you talk about twenty thirty or what what the endgame looks like. Real estate is not such an important part of the economy, and the wealthy who brought up multiple homes early have taken

a hit. Can they? I mean, I guess the question is can they get there without having to backcheck or would there be so much acute pain in the meantime from people who do have equity in uh in their own home or so forth, such that it becomes untenable to go all the way through without further easy or

without further sort of like juicing the sector. Again, I think this comes down to what is what is acceptable and what is not acceptable as a response, And if you look at what the PBOC and c d i RC have said specifically about Evergrand, it's almost exactly the same wording they used about H and A. This company exercised poor management and took blind risk for expansion. And this is the chickens coming home to roost and there's

no pity for them here. And what that also tells you is that you know there will be heads will roll on this. There will be as John gall Braves put it in when you've described the bezel, and we're you know, Michael Pettis and I have both described this as the downside of the bezel, the discovery phase of the bezel. Audits are are penetrating and meticulous. People are assumed to be dishonest until they're proven otherwise, and commercial

morality improves when the truth comes out. I think we're going to see that, and I think that's what that's what the goal is here. So the trick is what is acceptable and what is unacceptable. You know, speculators losing money, that's acceptable. Home Buyers in the streets, that's unacceptable. Forty million migrant laborers involved in the real estate construction sector out of work and not getting paid and not being

able to eat. That's a real problem. And so I think that there's a there's a difference between what is deemed to be an acceptable risk and was deemed to be an unacceptable risk. In this particular case, there's obviously a path risk, and I don't think that China has adequately prepared to the ground for that financing path. And the financing path in the end comes down to the local governments. So this is something that you and I

have discussed previously. And one way I like to think about the housing market and the way it fits into China's financial system is sort of like a supply chain. And I think you said this, but a supply chain of capital, right, it's moving in a straight line, and one disruption at one end of the capital supply chain is going to reverberate and have consequences for other things further down the supply chain. So maybe you can walk us through those connections and how a disturb in the

housing market. Lower inventory, lower prices might actually have a knock on effect to things like local governments, Chinese banks so ease, state owned enterprises and things like that. If we look at the status, if we think about this as as a shooting star, it's shot up. There was a lot of profit under the curve, a lot of spread taken out by different parties, and growth, a nominal growth, which was quantity of growth rather than quality of growth. The pivot point in all of this is the supply

of land. The government of China owns all the land in the early nineties that the decision on who sold land to whom was then delegated to the local governments, and the local governments could raise revenue because they were not allowed to issue definite bonds, they could raise revenue by by by selling land. And they would sell land and then the developer would develop it, and then they would earn a developer tax from the from the developers

sale of the land and property to buyers. If we look at the local government funding sources, something like thirty is across all of China is in the sale of land and the special taxes which come from the development. That's a very big portion of you know, local government funding, and that has been growing, you know, roughly in line

with GDP because it's a big part of GDP. When we look at this supply chain of capital, h you know, the people providing capital, those people providing capital, they provide it to a developer who buys the asset. Then the asset is rotated into savings capital, which is purchased by the the new home buyer or the investor. And if you think about these, there's a there are a bunch

of flows going on. If the local governments have sold a lot of land and that is going to decrease, that means that the grade of growth that they are able to raise money at will drop. We can look at this and say, you know, in two thousand there was no such thing as a land bank. Governments were starting out from scratch, Developers were starting out from scratch, and then we ran into the you know, the late naughties problem, the GFC, and then there was suddenly a

burst of financing. But the burst of financing allowed developers to build land bank. So if we take the idea of a land bank, from two thousand ten to two thousand twenty, developers have grown land bank to be you know, on average, something like three years worth of land on their books, and that means that local governments have sold

thirteen years worth of land in ten years. If we look forward and we say that the developers aren't going to be able to carry that because you know, they're high funding costs uh and the lower sales rate means that they simply can't hold it. They will burn through their inventory. But over the next ten years, basically the low governments will sell eight years worth of land bank to the developers who will then spend ten years worth

of land bank. So they were you know, earning at thirteen years out of ten so of what they probably should have, and now they're going to melt back down to eight years out of ten. Let's say that's drop versus your straight line growth, and drop is a lot of money to be taken out of the flow into local government coffers. And that's where the pivot point comes. If we look at all of these the logistics here. You know, real estate is a local government funding source.

It is a g d P source because all of the development creates jobs. It creates construction jobs, financing jobs. Mortgage spread is the single biggest contributor to the bottom line of most Chinese banks. There's a there's a clear incentive for everybody to have this all go well. But when it doesn't go well, you know, volume drops, spread drops, volume drops on the sales, land sales, and local governments find themselves unable to fund their other infrastructure products. And

that means fewer jobs. Uh, And it means that savings assets are not created at the same rate they were created before. In the end, I think that people are okay with the idea that savings assets, which are heavily levered aren't created because it's a relatively low spread asset. A lot of these assets aren't earning any money. People are financing them, but they're just held empty. So it's it's a relatively inefficient way to create a gross levered

financial asset. But all of this stuff between then, you know, local government financing, GDP, jobs, bank health, it's all connected. And when you put a stop on one end of it, that means, you know, the block cascades through the chain. I'd like to point people to Michael Pettis is odd Lots. Back in October, he really addressed this issue of expansion and contraction and local government as a place where it

was going to hurt. I think that is part and parcel of where we're going to see the problem addressed.

In the end. The biggest savior here will be probably local governments selling land to local government financing vehicles who will then build low income housing that will create jobs, It will create spread, and perhaps they will rent those two low income households on a kind of a rent to own basis, so that people are building a certain wealth and basis of future prosperity for their household and it will in effect dampen the pain that we're seeing.

But I don't think that we're going to see a return to people buying five or six apartments in a project because they can and expecting, you know, property prices to rise fifteen a year for the foreseeable future. I don't think that that's coming back. Travis. That was a fantastic explanation and update of what's going on. Really appreciate you coming back on all thoughts. Thank you all right, Travis,

Thank you so much. So It's always great having Travis on because he's immensely knowledgeable about pretty much any space you throw at him. But I thought, in particular, what was interesting in that well, I thought the thing that stood out in that conversation was the emphasis on changing the quality or the makeup of China's growth, the idea that you don't want to have financialized growth anymore, or

not as much of it. You don't want growth that's driven by asset price inflation and debt and leverage, and so you're taking leverage out of the system. I mean,

China has been pretty direct about doing this. If you're taking leverage out of the system and saying that you don't want housing to be purely for speculation, then inevitably those prices are going to have to fall and funding is going to fall too, And that's the big question for me, like where does the money actually come from and how much of it will be available because that's also going to dictate warehouse prices actually end up, right, Yeah, And this idea that or the goal like can you

sort of hurt the capitalists, the investors, the bond holders while also maintaining a healthy pace of volume growth in homes like building more homes or making more homes available, because obviously that's still a multi year priority and there's a lot of development yet to be done, and and as he described it, like the existing system was very friendly to capital and there were all these ways to I don't know if game is the right word, but let's say make easy money in the example of Okay,

you buy land from the government at X, but you don't have to pay it for a while, and then by the time you do pay, it's up, and then you can take money out of the system by the time you've done a little bit. And so essentially, like there's the leverage, and the question is can you keep up that same pace of home creation while making it

less capital friendly? Is like a really interesting thing to watch. Yeah, well, I thought the idea of China sort of killing two birds with one stone by building low income housing that will hopefully replace some of the lost inventory. Yes, that's a really interesting notion and it makes a lot of sense from a policy standpoint, So it'll be interesting to

see whether or not we actually see that. Now. It's kind of interesting that, like in any economy anywhere around the world, like especially these days, it's like whether the US are trying to like there is this demand for more house like more home volume, like people want, and yet you know, you don't really see modern governments at least, you know, at least in the West talking about like the number of new homes built as a mad major measuring stake, you know, the US to talk about like

wages and job creation, etcetera. But no, I've never heard like a politician say like, oh, well we built two million homes. Under my watcher, we built a million. You know, but it would be intuitive, and so it would be interesting if China, whe it's more sort of top down policy, can just sort of like manufacture homes in a way that's separate from the capital markets process totally. It makes

a lot of sense from a policy standpoint. But yeah, you're right, historically it just hasn't been emphasized, although I think in the UK politicians do make housings supply quite a talking point. Um. But maybe that's yeah, maybe that's a conversation another day. Shall we leave it there. Let's leave it there alright. This has been another episode of the Odd Thoughts podcast. I'm Tracy Alloway. You can follow me on Twitter at Tracy Alloway and I'm Joe wi

Isn't all. You could follow me on Twitter at the Stalwart follow our guest Travis Lundie. He's at Travis Lundi Asia. Follow our producer Laura Carlson at Laura M. Carlson. Follow the Bloomberg head of podcast, Francesco Levi at Francesca Today, and check out all of our podcast at Bloomberg under the handle at podcasts. Thanks for listening, O