It’s not new. We’ve seen it before. Every attempt fails. But a new plan is afoot to end China’s real estate driven growth addiction that keeps Australian iron ore above $30. Via Societe Gereral:
Policy directions in 2021: normalisation, de-risking and reforms
- The Central Economic Work Conference reiterated policymakers ’intention to continuing with policy normalisation and resuming de-risking,while mindful of the pace of adjustments, pledging to avoid “an overly abrupt turn”.\
- Fiscal policy will turn less accommodative. Weexpect a 3% on-budget deficit rate (vs 3.6% in 2020), no special CGBs (vsRMB1tn) and RMB 3tn in special LGBs (vsRMB3.75tn).This would point to an over 2pp contraction in the fiscal impulse.
- De-risking will resume onmultiple fronts, including implicit local gov debt, property developers and fintech. The increased tolerance for SOE defaults could lead to repricing of SOEs’credit risk, resulting in a tightening effect on credit conditions.
- Given these, monetary policy will likely have limited scope for further liquidity tightening. We think that the PBoC will have a small window in 2Q/3Q to take one (or two)rate hike(s), but afterwards it may need to turn more lenient in managing liquidity to mitigate any excessive drag from de-risking.
- Eight areas of reforms under the banner of the “dual circulation strategy” are highlighted for 2021, covering tech innovation,supply chain resilience, domestic demand, opening up of the economy, food security, anti-monopoly,housing in big cities and green development.
- The downside risk has increased due to the rise in domestic COVID-19 cases.
- A wider outbreak of COVID-19 domestically could weigh on the recovery in consumption and the service sector.
- On the upside, the vaccine hope has lifted the prospect of faster economic normalisation globally in 2021. Also, under the Biden presidency, the US will probably continue to view China as a long-term competitor, but the bilateral relationship should be less volatile.
In particular for iron ore:
The “three red lines” policy
- The policy was proposed end-3Q20
- 12 largest developers submitted debt reduction plans end-Sep,detailing how they will reduce their borrowing within one year andto fully meet the targets within three years.
- In early Jan, it was reported in the media that the policy will beextended to cover as many as 30 key developers.•If implemented, well over half of the combined balance sheet of theentire real estate sector would face material deleveraging pressureover the medium term.
- Caps on banks’ lending to the housing sector. In early Jan, the PBoC/CBIRC announced caps on each bank’s lendingto the real estate sector, covering both developer loans andhousehold mortgages.
There will be notable imapct on growth, if implemented
- It is important to economic growth.
- Housing market activity directly accounts for c.10% of GDP. Linkages with upstream and downstream sectors further boosts its weight to 20-25%.
- Land sales account for 10% of infrastructure funding. Despite the switch to special LGB funding, its equity-like features could still make local governments cautious over project investment.
It has serious implications for financial stability and household wealth
- Housing accounts for 30% of bank loans, 15% of trust lending, 8% of domestic NFC bonds, and 25% of offshore USD bonds.
- Housing investment has always been the most preferred form ofsavings by households, accounting for 70-80% of their wealth.
➢The cumulative drag on overall economic growth could be as large as 0.5-1pp over 2021-2023, under a gradual deleveraging scenario.
As said, this is not quantitatively different to what we heard 2011. Since then the realty monster has grown every year, including the commodity catastrophe year of 2015:
Note that a simple plateauing of floor space under construction in 2015 was enough to sink iron ore to $38. So long as vaccines deliver their promise, China will probably go ahead with these reforms in 2021 and crash iron ore again in 2022.
But expect it be halting, reversed quickly, and accompanied by desperate stimulus Hail Mary’s, as usual.
Which only means that the eventual end will be very much worse and more debilitating over the long run as the entire Chinese economy is sucked into the endless debt quagmire of Japaification.