If Evergrande defaults on its enormous debt, the tsunami could impact China’s banks and individual investors on a Macro scale, perhaps causing a financial crisis the likes of which China’s “communist economy with Chinese characteristics” has never yet experienced. Perhaps enough to propagate as far as impacting their purchases of U.S. Treasuries.
Not to worry.
China will take action to protect Evergrande’s Chinese bondholders (while making foreign bondholders take a haircut) because Evergrande is “too big to fail.” Chinese leaders can thank the United States for teaching them how to implement a bailout by treating two different types of creditors differently than what the law allows, based solely upon their political influence. Expect a version of “two-tiered” justice or the division of Evergrand’s lenders into Chinese nationals (privileged) and foreign nationals (non-privileged) creditor classes ex post facto.
The US government did essentially the same thing by treating retired pensioners (unsecured creditors) better than they treated Chrysler bondholders (secured creditors) in the 2008 bailouts. Foreign creditors were certainly among Chrysler’s bondholders who were forced to accept impairment despite superior priority.
In the absence of a bailout, GM and Chrysler would each have been forced to file for bankruptcy like any other company in their circumstances. It is possible that Chrysler would have then faced liquidation… General Motors, however, would almost certainly have been re-organized…
Secured debt takes first priority in payment; it is also typically preserved during bankruptcy under what is referred to as the “absolute priority” rule… In the Chrysler case, however, creditors who held the company’s secured bonds were steamrolled into accepting 29 cents on the dollar for their loans. Meanwhile, the underfunded pension plans of the United Auto Workers — unsecured creditors, but possessed of better political connections — received more than 40 cents on the dollar.
There is no way that the Chinese government (or Western central bankers) would allow another 2008 crisis to develop simply by letting a few hundred billion in ostensibly bad debt impede the smooth functioning of markets.
If it appears there is no other way for China to throw a lifeline to Evergrande, the Peoples Republic of China and the Bank of China could always create the equivalent of America’s TARP, which protected US bankers from suffering the consequences of their bad decisions.
The Troubled Asset Relief Program (TARP) was an initiative created and run by the U.S. Treasury to stabilize the country’s financial system, restore economic growth, and mitigate foreclosures in the wake of the 2008 financial crisis. TARP sought to achieve these targets by purchasing troubled companies’ assets and stock.
There’s no need to reinvent the wheel. When your greatest competitor and/or potentially disadvantaged creditors have already established a custom of tackling excessive debt by officially approving of and implementing a massive system for rewarding Moral Hazard, you simply repeat the same methods and practices whenever needed.
Wash, Rinse, & Repeat.