China’s Evergrande in uncharted waters after key interest deadline passes

Chinese real estate developer Evergrande failed to make a key interest payment on Thursday, a move which could have serious repercussions for China’s economy and the global financial system.

There is still a 30-day grace period for repayment, with investors left uncertain if Beijing will rescue the property giant in a bid to prevent financial disruption. A bailout appears unlikely, however, as the government is making a show of wanting companies to rein in their debt.

Chinese authorities reportedly told China Evergrande Group, the country’s second largest property developer, to avoid near-term default on its dollar bonds while at the same time telling local governments to prepare in case the property giant collapses Thursday.

The uncertainty caused Evergrande shares to slide six percent in early trade, Reuters news agency tweeted.

At the same time, Chinese banks attempted to allay investor fears by disclosing how much they are owed by Evergrande.

How much does Evergrande owe?

Bloomberg Law reports Chinese regulators requested Evergrande avoid a near-term default on its dollar bonds and the nearly $83.5 million (€71.1 million) in dollar-bond interest payments due Thursday. At the same time, The Wall Street Journal reported that the central government is alerting local governments that the property giant could collapse.

The payments that were due Thursday are on a $2 billion offshore bond and a $47.5 million dollar-bond. Evergrande’s bonds would default if the company fails to settle the interest payment it owes within 30 days.

In total, the company owes $305 billion in the next two years. Bloomberg reports Evergrande has stopped paying staff and factory suppliers in its electrical vehicle unit.

In Hong Kong, though, shares of Evergrande rose 18 percent on news that the property conglomerate would manage to pay bondholders in China, without giving word as to whether it would satisfy overseas creditors.

The Evergrande crisis has its roots in 1994 reforms that helped boost central government coffers but made local authorities depend on land financing for revenue, Alfred Wu, associate professor at Lee Kuan Yew School of Public Policy in Singapore told Reuters news agency.

“Evergrande is a cash cow for regional governments. If the company goes bust, the model of land-financing and regional governments will go bust, too. The central government won’t allow that,” Wu said.

What insolvency for Evergrande could mean

Uncertainty over Evergrande’s ability to meet its debt obligations signals the end of a freewheeling era of building with borrowed money. The property boom fueled the physical transformation of China.

The risks to China’s real estate market down are considerable. The property market accounts for a quarter of Chinese GDP.

Tang Renwu, who heads the School of Public Administration at Beijing Normal University, told Reuters that the Chinese government knows that letting Evergrande go bankrupt could have serious consequences.

“Disgruntled homeowners and shareholders could cause social instability, loan defaults could lead to financial risk, massive layoffs could add to employment woes, and private firms could be further spooked,” he said.

A default on interest to foreign bond holders risks stifling macroeconomic growth if foreign investors feel they took a haircut at the expense of domestic Chinese investors.

Analysts including the US Federal Reserve’s Jerome Powell believe the fallout would largely be contained to China, arguing he did not see a parallel with the US corporate sector, for instance.

A handful of real estate developers in China have already seen their ratings downgraded by agencies due to the uncertainty surrounding Evergrande and concerns over debt and repayment weighing on borrowing costs.

Debt bankers also report few companies are interested in extending credit to the market while uncertainty clouds the sector.

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