China's Property Crisis and Gold

China’s real estate market as of late has been on the brink of collapse, and of course, we look at the Evergrande situation. For context, Evergrande is the second-largest property developer in China by sales. It currently holds a little over US$300 billion in liabilities which accounts for nearly 2% of China’s GDP. A few weeks ago, this gigantic developer almost defaulted on payments but managed to make a US$83.5m coupon payment at the last minute.

A contributor to the Evergrande crisis has been China’s crackdown on excessive borrowing and deflating the property sector bubble which currently accounts for almost 30% of China’s GDP. One way the government has curbed excessive borrowing is through the “Three Red Lines” policy which has made it extremely difficult for developers to issue more debt. With a high reliance on debt, a liquidity crisis ensued.

With more interest payments coming up, will China let this behemoth fall? And if so, what are the consequences for gold?

Currently, the scares and fears experienced worldwide from the Evergrande situation have yet to deluge into the Gold market with prices remaining relatively stable. Since the 5th of October (the start of the Evergrande crisis), gold prices are up 2.66% from $1,769/oz to $1,816/oz. The lack of movement caused by the Chinese real estate problem is likely because gold is heavily reliant on US economic performance and policies. As of yet, there has not been much overspill of the Evergrande situation into the US market.

On the other hand, the real estate crisis has pushed stagflationary pressures into a realistic scenario. China’s inflation continues to climb while its economy slows, mostly due to the situation. In Q2 2021 the Chinese economy expanded 7.9% while it grew just 4.9% in Q3 2021. Stagflation environments have proven in the past to be extremely beneficial for gold prices. The last stagflation period in the US saw gold prices rise as much as 2,328%, as investors looked for a safe haven to park their wealth during a time of uncertainty.

In relation to the situation, China might decide to devalue the yuan through foreign exchange intervention, which could act as a hedge against gold prices for two reasons. Firstly, it would mean the Chinese government is relying on exports to bolster its GDP which could create inflows into the precious metal market. Secondly, being a US Dollar denominated commodity, a devaluation in the yuan would likely cause an appreciation in the US Dollar and hence lower gold prices.