Haixin default to test China’s willpower for market reform
When Chinese Premier Li Keqiang said defaults in the Chinese economy were “unavoidable” at his annual press conference on Thursday, he was probably not talking specifically about debt-laden Haixin Steel in northern China’s arid Shanxi province.
But Haixin may become an early test of Mr Li’s determination to see more market-oriented behaviour in China’s state-dominated economy.
The private steel mill failed to pay back overdue bank loans last week in a default that has been felt far beyond the local economy where Haixin is entangled in a web of so-called triangular debt and shadow banking activity.
News of the default was cited by Chinese steel traders as one reason for the jitters that ran through global iron ore markets this week and led to prices dropping to their lowest level since the aftermath of the global financial crisis in 2009.
A general slowdown in Chinese growth is also dragging on commodity prices as factory production, investment and retail sales figures released by the government on Thursday showed a much weaker performance in the first two months of the year than many had expected.
If the slowdown in the world’s second-largest economy continues it will limit Beijing’s room for manoeuvre and could sap its determination to reform.
But, according to people familiar with the government’s thinking, Mr Li’s administration is intent on allowing some high-profile defaults to serve as a warning to China’s profligate lenders in both the formal and shadow banking sectors.
Haixin might just be one of these test cases as it ticks many of the boxes on the list of evils in the economy that the government has pledged to address.
Chinese steel mills are struggling with severe overcapacity, heavy debt loads and a softening market, and more than half of them are losing money by some estimates.
Haixin does not rank among the top 30 mills in China, so officials may be confident that letting it close would be enough to scare the market without posing any systemic risk.
They might be too optimistic. Steel traders fear Haixin is deeply entangled in triangular debts with coal suppliers and other local companies. Haixin was the lead investor, together with other local private companies in a credit guarantee company that backed other companies’ debts for a fee. Loosely-regulated credit guarantee companies are supposed to keep enough capital on hand for multiple defaults, but few are prepared for a cascade of bad loans.
In 2012, local governments and banks offered bridge loans to 62 different companies near the eastern city of Hangzhou to keep them afloat after the collapse of a single property developer at the centre of a web of reciprocal loan guarantees.
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Haixin’s problems have been well-flagged. A December report by the banking regulator’s local branch warned banks against lending to steel mills that had borrowed from multiple banks. It specifically named Haixin in an unusual public shaming. The Shanxi branch of Agricultural Bank of China ordered the local branch to stop lending to Haixin two years ago. BHP Billiton cut off iron ore supply about 18 months ago.
Haixin has also been repeatedly censured over the years for its environmental practices and that puts it directly in the line of fire in China’s newly-declared “war on pollution”.
The struggle with debt – its own, and other people’s – has plagued Haixin for many years.
In 2003, a heavily indebted former classmate and life-long friend killed Haixin’s founder, Li Haicang, with a single shot from a sawn-off shotgun, after Li refused to pay the requested amount for land occupied by the classmate’s defunct paper mill. His son Li Zhaohui, then 22, cut short his punk hairstyle and began running the business.
The younger Li soon came up against Chinese policies designed to forcibly consolidate the steel sector, policies that have resulted in state owned companies, which can access low-interest rate loans from state-run banks, taking over private companies which cannot.
Forced to expand to meet minimum size requirements or face takeover by state competitors, private companies, particularly steel mills and coal miners, have borrowed far too much and are now struggling to survive. Meanwhile, the policies have contributed to the overcapacity that now plague many of China’s industrial sectors.
In 2008, Shanxi province released a plan for its steel industry that envisioned state-owned Taiyuan Steel, the nation’s largest stainless steel producer, taking over all the other provincial mills. Haixin briefly shut in 2009, but got back on its feet after a national stimulus plan revved up Chinese steel demand. Mr Li planned to expand to 10m tonnes of steel a year, to meet the threshold for issuing bonds so he could stay independent, but never managed to reach that target.
By last summer, Mr Li’s options were narrowing. He sold a mining subsidiary to get cash, local land records show, but it was not enough.