China’s local government financing vehicles are rushing to buy up vast amounts of land with borrowed funds, bailing out cities and provinces struggling for cash after an exodus of indebted private-sector developers.
The spending spree has been unleashed in the run-up to President Xi Jinping’s expected appointment to an unprecedented third term next month and highlights efforts to push through the pandemic’s blow. economywhich grew just 0.4 percent year on year in the second quarter.
Local governments have traditionally relied on LGFVs to support growth spearheading investment in infrastructure. Now, financing vehicles are called upon to prop up the real estate sector, which accounts for about a third of total economic output.
According to official data, LGFV land acquisitions rose to Rmb400bn ($57bn) in the first half of the year, up more than 70 percent compared to the same period in 2021. This is despite land purchases in general, that have previously been dominated by private developers, falling by almost a third as Beijing cracks down on real estate speculation.
The buying spree is intended to help cash-strapped local authorities, for whom land sales are a major source of income. But LGFVs, which play a critical role in financing long-term infrastructure development, are being forced to borrow more from state-owned banks and issue bonds to finance the deals.
“I see this as an indirect government bailout that is politically acceptable,” said Andrew Collier, managing director of Orient Capital Research in Hong Kong.
Most of the LGFVs, who often have little experience in real estate development, are laying their newly acquired land idle. This, combined with the larger real estate market collapseIt means that the short-term relief local authorities get from the financing vehicle’s land purchases ultimately spells further trouble for China’s already reeling economy.
“Governments are basically asking LGFVs to pay inflated prices [for land] in a declining market, which is not sustainable,” Collier said.
LGFVs are known for their slow financial performance and their emergence as main actors in land auctions It comes as private developers are forced to cut back due to the industry-wide debt crisis.
A drop in land sales and declining prices have exacerbated pressure on local governments already grappling with shrinking tax bases amid a broader economic downturn. This has led many cities and provinces to apply for LGFV to fill the gap left by private developers.
“We have played a critical role in preventing the land market and government revenue from falling off a cliff,” said an executive with Yueyang Urban Construction and Investment. LGFV, based in the central province of Hunan, spent 1.3 billion yuan buying land in the first half of this year.
Official data shows that LGFVs accounted for nearly a quarter of land sales in the first half of this year, compared to 9 percent in the same period a year earlier. The proportion exceeded 50 percent in some small, less developed cities.
But the buying boom has come at a heavy cost for LGFVs. To compensate for the lack of bidders, many cities have raised the minimum price for land auctions. That has often forced LGFVs to pay a premium even when the market is weakening.
In Weihai, a city in the eastern province of Shandong, an executive with Huancui District Urban Development Investment said his LGFV paid at least double the market price for a suburban parcel late last year. “We made the investment for political reasons, not commercial ones,” said the executive.
State banks have provided financial muscle for the shopping spree.
Most LGFVs face cash flow constraints as they derive most of their revenue from government-backed infrastructure projects with long-term profitability horizons. Meanwhile, state lenders are willing to give LGFV loans against the land as collateral or buy the latter’s bonds in the hope that the authorities will intervene if a crisis occurs.
“We have better access to credit than the government,” the Yueyang Urban Construction and Investment executive said, citing Beijing’s restrictions on local government lending.
But actually building on your newly purchased lots is still a challenge. Only one in five LGFVs have real estate development experience, according to the China Index Academy, a Beijing-based consultancy.
That has led many LGFVs to postpone development plans. Private developers, by contrast, often begin construction shortly after winning a bid.
In the southern city of Guangzhou, construction activity has not started on any of the 10 blocks of land purchased since late last year by LGFV, according to people familiar with the developments.
“We don’t know much about real estate,” admitted an executive at Guangzhou Metro Group, which has spent more than 2 billion yuan buying land since the end of last year. “It’s in our best interest to hold onto the land and sell it for a profit when the market picks up.”