Evergrande: Xi Is Hemmed In

China’s capitalism is as debt-fuelled as West’s, and as difficult to reform

- Ruchir Sharma

For much of this year commentators have been warning that falling yields suggest the bond market is increasingly irrational, out of touch with a rapid global recovery and misled by heavy central bank buying or the ebbs and flows of the pandemic. Now, events in China suggest the bond markets are far from clueless or crazy.

The world’s most indebted real estate developer, Evergrande, has been teetering on the verge of default. Its troubles are reverberating across China’s property sector and the world, revealing a very rational reason why long-term interest rates would not rise too far: The global economy is too heavily indebted and too financially fragile to handle tighter credit conditions. We are caught in a debt trap.

China is stuck in the deep end of this quagmire, with rising debt fuelling the expansion of financial markets to precarious levels across the global economy. In the run-up to the global financial crisis of 2008, debt levels rose dramatically in the United States and many European countries. Since then, China has led the debt binge: Private debt held by households and corporations has risen by nearly 100 percentage points to 260% of GDP in China, accounting for nearly two-thirds of the global increase over that period.

These risks were well-telegraphed in the first half of the 2010s. By early 2016 China appeared to be on the financial brink. Default rates were rising rapidly. Capital was rushing out of the country. To stave off another global financial crisis, the US Federal Reserve had to abandon plans to tighten monetary policy, and Chinese authorities had to inject massive amounts of money into the financial system.