Why Chinese property developers are accepting garlic as payment

Darcy Cordell: [00:00:03] From Equity Mates media. This is the dive. I'm your stand in host Darcy Cordell 

Audio clip: [00:00:08] Only in China. The same developer is accepting down payments of garlic to Chinese property. 

Darcy Cordell: [00:00:12] Developers are now accepting garlic in exchange for property. You heard that, right? And no, garlic isn't code. 500 grams of garlic will get you ¥5 off your property. Or maybe more realistically, five tons of garlic will get you ¥50,000 off your property. That's a little over 7,000 USD. As we scale up our Instagram, follow it. By the way, at the Dived Up Business News, we came across this story and it got us wondering what the hell is going on. Chinese property was front of mind for many investors last year as we watched property developer Evergrande struggle with its $300 billion in debt turn away for a few months. And now evergrande developer peers are accepting fruit and vegetables as payment.

Audio clip: [00:00:57] But the Chinese property machine hasn't completely crumbled. This is really in many ways only just beginning. 

Darcy Cordell: [00:01:03] It's Wednesday, the 13th of July, and today I want to know what is happening to China's property market and why does it now involve fruit and vegetables? To help me understand what is happening, I'm joined by the co-founder of Equity Mates, Alec Lenihan. Alec, welcome. Hi, Darcy. Good to be here. I think this is the first time you're hosting it. Is. I'm looking forward to it. Yeah. Yeah. And a very interesting story. Well, a fascinating headline for you to kick things off with. Yeah, despite the funny headline, there is a big story developing here, Alec. Where does it start? So Chinese property has been in a downturn for a while and Evergreen was the name on everyone's lips last year. But if we go back a decade or so, Chinese property has been in an unbelievable bull market. 

Audio clip: [00:01:46] It created the perfect conditions for the world's biggest ever property boom. 

Darcy Cordell: [00:01:51] Prices were rising and housing was sold as quickly as it could be built to keep up with demand. Chinese property developers borrowed and borrowed a lot, which is all fine if prices keep rising and property keeps selling like hotcakes. But it's not fine if it slows down. And Chinese property did slow down a lot. Property sales have fallen over 40% from this time last year. 

Audio clip: [00:02:18] There are enough empty homes in China right now to house about 90 million people greater than the population of Germany or the UK. 

Darcy Cordell: [00:02:28] 90 million. That is absurd. Basically, Chinese property developers overborrowed, overbuilt and are now struggling to sell as a result. That 90 million number is just staggering. 

Audio clip: [00:02:40] You've got to understand housing in the Chinese context. It's the only game in town. It's the biggest game in town. We're talking about an asset class, which is the largest investment asset class on on Earth, which Xi Jinping might not enjoy it being called in an asset class because of course they are living in. But nonetheless it's 66 trillion USD worth of asset value there. 

Darcy Cordell: [00:03:03] And this is why many of us have become acutely aware of EVERGRANDE and its $300 billion of debt. Is that right? That's right. We all became experts in Chinese property development for about a month last year as the world got worried about Evergrande, it was the most indebted company in the world. I believe with 300 billion U.S. dollars in debt. 

Audio clip: [00:03:23] The Chinese property market is a bit like a game of Jenga. 

Darcy Cordell: [00:03:26] But Darcy, the important thing to remember here for this story is when a company has debt, there is someone on the other side a bank, a lender, a company. There is someone on the other side of that debt that expects to get paid back. 

Audio clip: [00:03:40] The most indebted property company in the world, Evergrande Group, if it really goes under. So it's definitely become China's biggest ever bankruptcy case. 

Darcy Cordell: [00:03:54] And last year we were so worried about Evergrande because if they couldn't pay back about $300 billion in debt. There were lenders on the other side, in some cases Chinese banks, that would miss out on that money and that could then spread to the rest of the economy. Echoes similar, but not quite the same as America. In 2008, another Lehman Brothers moment. I remember contagion risk was the buzzword for about a month there. But then our attention was taken by events on the other side of the world, and we went from being Chinese property experts to European energy analysts. So what actually happened from there in China? 

Audio clip: [00:04:31] At its peak, Chinese developers were building 15 million homes every year. Why did they build so many of them? Because there was a time when real estate was considered a safe bet. Many Chinese citizens saw property as a reliable investment. So many families ended up buying a second or even a third house. 

Darcy Cordell: [00:04:47] So China has been working hard to engineer a soft landing. And if you want more on that, comedian, The Economist did a great episode on that last week. But this has been a two sided process. On one hand, China wants developers to be able to sell the housing they have built that 90 million or so empty apartments to generate cash to pay back their debt. On the other hand, a lot of Chinese citizens wealth is tied up in real estate. It's the largest asset class in the world. Chinese real estate worth 66 trillion USD. Wow. Well, it was worth that much. The government doesn't want to see a crash in the property market and the wealth of regular Chinese citizens wiped out. So to get around that, the balancing act, we've seen Chinese property developers discount their property deep, deep discounts so they can basically keep saying the price is something, even if they're selling it for 40% or more below that price. Yeah, that's right. The market hasn't crashed. We're just selling everything at deep discounts. And that sparked a reaction from some Chinese cities. They've cracked down on this discounting and limited the amount that developers can discount. 

Audio clip: [00:05:58] Property developers in China are out of cash. They're so desperate that they're selling property for weed. You have that right. In China, property dealers are resorting to an unheard of barter. 

Darcy Cordell: [00:06:10] Which Darcy brings us to the garlic. The garlic? I've been waiting for this. Alec, what's the deal here? So in lieu of cash discounts, if you can no longer say 40% off your apartment, these developers have found ways around it. And one of them is to accept fruit and vegetables as payment for property, but they're accepting it at well over the market price. 

Audio clip: [00:06:34] What if the buyer does not have wheat? Well, there is another option. Then you can pay with garlic. Only in China, the same developer is accepting down payments in garlic too.

Darcy Cordell: [00:06:44] If a tonne of garlic is worth $100 to a farmer, property developer might be saying it's worth $500. And that way they're giving the property buyers a discount. Okay, I think I understand how this works, but does it mean that regular Chinese citizens are actually going out and buying a whole bunch of garlic and wait to get a property? Not quite. This policy is more aimed at farmers and developers are accepting garlic, watermelons, wheat and barley to discount deposits for new apartments. We're not quite saying a run on the supermarkets in Beijing yet. Basically, a farmer can offset just under 24,000 USD of their deposit by using produce rather than cash. Wow. And I've read that they're not just accepting payment in the produce, they're also offering it as incentives. Yeah, that's right. Our poly real estate, one of China's biggest developers, said it would gift buyers a 100 kilogram or £220 hog if they purchased a home in a certain housing development. So dinner served, I guess that is incredible. They're really desperate for buyers online, but it just doesn't seem like a long term solution to me. Property developers are still in trouble and there's still this concern about contagion. Yeah, that's right. Produce isn't going to save the Chinese property industry. Evergrande has defaulted on more than 20 billion USD of their foreign debt. 

Audio clip: [00:08:15] Five Chinese property developers have defaulted since last year. The Evergrande Group, the KAISA group, so not China Holdings, the user group and the Fantasia Holdings Group feel that debts are spreading like cancer in China's property sector. Goldman Sachs has made a prediction. A third of China's top developers could default this year. We're talking about 22 companies expected to default. 

Darcy Cordell: [00:08:40] Earlier this month. Shanghai based Shamal Group was unable to pay 1 billion USD on its debt as some of the biggest developers are defaulting on. Dollar denominated bonds. So there's some massive companies kind of going under here defaulting. And the pressure on these debt laden property developers is not showing any signs of ageing. So that's right. In the second half of the year, 60 Chinese property groups are due to make over 13 billion USD in payments. And concerns are that many of these developers won't be able to make those payments. So, Darcy, this isn't the end of this story, but it is also sparking fears of an economists worst nightmare, a run on the banks. Reality. Before we get into that worst nightmare, let's just take a quick break.

Audio clip: [00:09:33] There are enough empty homes in China right now to house about 90 million people. 

Audio clip: [00:09:40] This is enough room to house the entire population of France. These units are empty. They have no takers. And experts say they will remain empty because China has built way too many houses. 

Darcy Cordell: [00:09:50] Welcome back to the Doors. We've been speaking about China's struggling property developers. But the concern has always been that their struggles would spread to the rest of the economy alike. Before the break, you mentioned the term bank run. Can you give me a quick explainer? Yes. So when a bank takes in your savings, they don't store it all in the vault. They lend it out to people and to companies, to home buyers that want to borrow money. And they do this because they are confident that not every saver is going to want their deposits back. At the same time, they don't need to keep all of your money in the bank. They just need to keep enough to give you what you want when you want it. Okay. Can I play devil's advocate here? What if they all do want their money back at the same time? Yeah, well, this is. This is how it happens. This is how a run on the bank starts when people lose confidence in the bank. They all decide they need to withdraw their money ASAP because they're not confident the bank can store their money. And when a lot of customers try to withdraw their savings at the same time the bank doesn't have enough money in the vault. To give it to the vault is probably pretty old school. But let's go with it. Yeah, yeah, we'll go with it. This creates panic, and panic undermines confidence in the bank even more, which causes more customers to come and try and withdraw, which makes the situation worse for the bank, which causes more panic, which causes more customers to come and try and withdraw, making the situation worse for the bank. Darcy You get the point. It's a compounding cycle or a domino effect, and this is a run on the bank. Eventually, banks collapse. Okay, that's a very good explanation. Domino effect compounding. I get it. But is this what we're seeing in China at the moment? Well, as we said before the break, for every borrower, there is a lender. And as the Chinese property developers borrowed more and more, the lenders were often Chinese banks. So if these loans are now not getting paid back, there is concern that the deposits at these banks are at risk. So we're seeing a few concerning signs at the moment. We're not seeing a run on the bank yet, let's be very clear. But we're seeing a few concerning signs. This now connects another story we published on our Instagram yesterday at the Dived Up Business News. Always give it another plug. And it's about protests outside the People's Bank of China in Zhengzhou. Thousands of savers have been unable to withdraw their money since April. And we're seeing escalating protests in the city as a result. 

Audio clip: [00:12:21] A massive protest over frozen bank deposits turned violent in Joe in China. Police clashing with demonstrators on Sunday. Demonstrators who were angry that some rural banks have kept millions of dollars frozen since April. At the time, the bank said they were upgrading their internal systems, but customers say they've heard nothing from the banks about the matter since then. 

Darcy Cordell: [00:12:44] Savers in Zhengzhou weren't able to get their money out, which undermine confidence across the city, other savers, other banks. Everyone started to get very nervous about the banking situation there. We've started to see protests in the street and there was a video that we posted on Instagram if people want to go and watch that. Chinese authorities are doing everything they can to quell these protests and maintain confidence in the banking system. But yeah, people are worried about the, I guess, the liquidity or the solvency of some of these banks. And it's pretty rare to see public protests in China, but it's fair enough, I think. I mean, if I'm unable to access my savings for months, I would definitely be out there protesting. I've seen reports that there's a life savings of some people. You can't just sit around and and do nothing. That's why I think the the estimates are it's 1.5 billion USD worth of saving savings that is at risk. Now, we should be clear that the concerns here may not be related to the bad debts of property developers. Chinese officials have said they're investigating fraudulent activity of a company, New Fortune group, which is the largest shareholder in a number of the banks that are involved. But it does come in the context of increasing bank runs amongst a number of China's smaller regional banks over the past few years. And these bank troubles are undermining overall confidence in the system. And that brings us full circle. If, on one hand, these Chinese banks are seeing nervous depositors call on their savings. And on the other hand, we say borrowers unable to pay back their debts. We might see a liquidity crisis and that's where countries get into trouble. Banking is a balancing act, bringing in enough deposits so you can lend lending enough, so you can make money and pay interest on those deposits and keeping enough liquidity, a.k.a. enough money in the vault to give money back to the. As it is when they call it. If on one hand, the depositors all want to try and get their money out pretty quick at the same time. And on the other hand, the borrowers stop being able to repay that debt. China's banks may face a liquidity crisis. Now the Chinese state is always willing to step in and may need to step in in unprecedented ways to stop a Chinese banking crisis affecting other parts of the economy or the global economy. But I think the conclusion here, at least at this point, is this is a story worth watching and one that definitely has more to play out. I think we can say it is a story that started with garlic ends with the risk of potential global economic crisis. Yes, not exactly the fun episode that we set up, but a fascinating story nonetheless. Let's leave it there for today. I'm sure it is one that will come back to as things develop over in China. Thanks for joining us for today's edition of The Dive. If there's a story you want us to talk about. Contact us at the dive at Equity Mates dot com or follow us on all the social media channels. All those details in the show notes below. Remember to write and review us in your favourite podcast app five Stars and subscribe so you'll have every episode delivered to the moment it drops. Thanks for joining me today, Alec. Thanks to AC. Well done. First time hosting Cheers until next.