Aug 16, 2023 - World

China's dilemma in trying to manage debt crisis

Illustration of a Chinese 100 yuan bill with an unhappy Chairman Mao photo on the bill

Illustration: Sarah Grillo/Axios

Beijing is caught between rolling out more stimulus to prop up the Chinese economy, or pulling back government incentives that fueled the real estate bubble — and risking a deeper economic slowdown that could create social unrest, experts say.

Why it matters: China has already reported a slew of weak economic data. A collapse in the financial and real estate sectors could plunge the country into recession.

  • Mismanagement of a real estate debt crisis could cause a sustained period of stagnation like the one Japan experienced in the 1990s.
  • A recession in China could also have vast ramifications for the global economy.

What's happening: China's central bank unexpectedly cut interest rates on Tuesday for the second time in three months, Bloomberg reports, as fresh economic data showed deepening economic challenges.

  • But analysts say the Chinese government is unlikely to take stronger measures to prop up the country's economy and real estate sector.

What they're saying: "Deep down, Beijing wants to deflate the sector," Louis Lau, a director of investments at U.S.-based Brandes Investment Partners, tells Axios. "Right now the government is trying to do as little as it can without provoking social unrest."

  • Protests broke out in more than 100 cities last year as mortgage owners demanded that developers finish the apartments they had already paid for, sometimes years in advance.

Background: Years of central government stimulus encouraged a flurry of infrastructure and real estate development in cities across China, which in turn created rapid economic growth.

  • Local governments often took out loans to pay for expensive and sometimes wasteful infrastructure projects. Many of the developers who bought that land are now deep in debt themselves.
  • These policies created a huge real estate bubble, which analysts for years have predicted was unsustainable.

That bubble finally seems to be bursting. Economic damage from China's zero-COVID policy, as well as heavy-handed government meddling in the tech sector and other major industries, have driven down growth.

  • China's economy is also facing deflation risk, which can make debt worse.
  • "Deflation means the real value of debt goes up," David Dollar, a senior fellow at the Brookings Institution, told Insider. While high inflation can actually help relieve the burden of debt over time, he said, "deflation does the opposite."

What to watch: "I think the industry will remain in a state of life support for quite some time," Lau said.

Go deeper: China's slump weighs on U.S. stocks

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