China's $60 trillion housing industry is sick, and "no one is immune"

If the developers fail to meet one, two, or all of the ‘three red lines’, regulators would then place limits on their capacity to take on debt. 

Ironically, the 3 red lines policy in some ways catalysed the crisis by forcing developers to sell assets.

Evergrande, the world's second-largest property developer, was the first big developer to default when it failed to pay out an $82 million interest payment to US dollar-denominated bondholders. 

Not wanting to miss out, developers Sunac and Shimao joined the party this year with their own offshore defaults. 

Things have gotten so bad that developers are now throwing in free cars and live pigs with property sales. 

confidence shattered

In China, properties are bought off the plan in full. 

"People who are buying property are getting more concerned, and losing confidence in the property market because they're concerned developers won't finish their properties."

So what do you do when you've paid for something that hasn't been delivered? Stop repaying the loan. It started as a trickle that has turned into a torrent.  

Initially, purchasers of Evergrande's half-built Dynasty Mansion project penned a letter stating: “All homebuyers with outstanding mortgage loans will stop paying,” unless construction resumes before October 20.

Since then, 300 homeowners' groups in 91 cities have banded together to boycott mortgage repayments. Concurrently, the country is dealing with a string of runs on its rural banks after customers got wind of nefarious investments that may have compromised bank liquidity. 

On Monday, the PBoC responded by lowering the five-year prime mortgage rate by 15 basis points to 4.3% from 4.45%. 

"If timely and effective policy intervention does not materialise, distress in the property market will be prolonged and have effects on various sectors in China beyond the property sector's immediate value chain," Fitch analysts said in a report Monday.

Slow burn

Many pundits have raised the possibility of a liquidity crisis, a la the Global Financial Crisis, but Chan believes that far more likely is a slow, structural downturn that will bleed out globally over the long-term. Indeed the loss of confidence has already been baked into China's bond market.

"The levels these bonds have been trading is so ridiculously low... bonds historically don't trade at these levels - 20 cents in the dollar."

Over the long run, you're in for a period of very weak growth. And that's coming through in GDP growth data already. 

It's important to separate China's financial system from the wider Chinese economy.

"It's less integrated in its financial system than what you see in other parts of the world; but economically it does have an affect."

And we're seeing that effect already. The IMF baseline forecast suggests growth will slow in China from 6.1% last year to 3.2% in 2022; 0.4 percentage points lower than in the April 2022 World Economic Outlook.