. Define HQLA as high quality liquid assets, which are assets that can be sold quickly (highly liquid)

Due midnight (East Coast time) October 27
In the September 12 issue of The Economist is an article “China’s Ponzi-like property market is eroding
faith in the government.” The real estate industry comprises about 20% of China’s GDP. Housing prices
have increased sixfold over the last 15 years, generating what many people described as a housing bubble.
The government has been concerned that the increase in demand was driven more by speculation than by
new home owners planning to inhabit the houses. Real estate developers raised funds by borrowing heavily,
especially in the junk bond market, and selling units that had not been yet built. The companies would
use the payments for housing units yet to be started to pay off current debts and, in that sense, it was
“Ponzi-like.”
It appears that housing prices are now dropping. New project starts this past year have fallen about 50%
and the value of new home sales has dropped by 29% and this is having a large negative impact on real estate
developers. For example, Evergrande Group, the largest developer, is the sixth most indebted company in
the world with a debt of $100 billion. It defaulted on its international debt in late 2021. In the once booming
junk-bond market, investors have stopped supplying funds to Chinese real estate companies. Home buyers
who purchased homes in advance of construction are now refusing to pay as unfinished developments sit idle.
The Chinese government wanted to reduce the high indebtedness of real estate developers to avoid a
hard crash in the housing markets. This article attributes the housing crisis to two causes: (1) The “three
red lines” imposed August 2020 restricting various balance sheet ratios and (2) restrictive COVID policies.
Restrictive COVID policies reduced the demand for housing, especially in urban centers, for a variety of
reasons. There are three restrictions imposed on balance sheets of real estate developers:
1. A restriction that
Liabilities
Assets < .7
2. Define HQLA as high quality liquid assets, which are assets that can be sold quickly (highly liquid)
1
without a loss in value. The second restriction is
HQLA
Short term borrowing < 1
3. A restriction on net debt
Net debt
Equity
< 1
Answer the following questions about the policy.
1. Describe the restrictions on the capital/asset ratio and liability/asset ratio imposed by the first “red
line.”
2. What is the regulatory intention of the “second red line?”
3. In the third “red line” you can treat net debt as liabilities. What sort of restriction does this requirement
impose on the capital/asset ratio and the liability ratio?
4. Explain how rising interest costs (due in part to the reluctance of foreigners to buy the Chinese bonds)
impacted the balance sheet of real estate companies.