The long and tumultuous journey of Evergrande Group has reached its final chapter as a Hong Kong court has ordered the troubled property-development giant to liquidate after failing to reach a restructuring agreement with creditors. This development raises an important question for investors worldwide - what does Evergrande's downfall mean for China's economy and financial markets? Unfortunately, it doesn't bode well for the world's second-largest economy, as it further exacerbates the long-standing drag caused by the beleaguered property development sector on overall growth.

According to Arif Haque, an analyst at Piper Sandler, Evergrande's liquidation is expected to act as another obstacle to nominal economic activity. Haque notes that a 1% year-over-year decline in real-estate investment has already had a 0.3 percentage point negative impact on China's nominal gross domestic product (GDP). In the past year alone, real-estate investment has plummeted by a staggering 16%, resulting in a significant 5 percentage point blow to GDP.

To put it into perspective, Haque explains that this drag on the property market is largely responsible for the slowdown in China's GDP growth from double digits to a more modest rate of around 5%. The implications are clear - Evergrande's downfall will not only have immediate effects on the Chinese economy but will also continue to hinder its long-term growth prospects.

The repercussions of Evergrande's crisis are already being felt in the stock market. Chinese stocks have experienced a sharp decline at the beginning of the new year, with the Shanghai Composite, China CSI 300, and Hong Kong's Hang Seng Index all suffering substantial losses. So far in January, the Shanghai Composite is down 3.1%, the China CSI 300 has dropped 3.7%, and the Hang Seng Index has tumbled 5.7%.

Last week, the Hang Seng Index reached a 14-month low, and the China CSI 300 traded near a four-year low. These declines are directly linked to concerns surrounding the property sector, sluggish economic growth, and tense U.S.-China relations.

Overall, the liquidation of Evergrande Group not only represents the winding down of a troubled entity but also carries significant implications for China's economy and its financial markets. The fallout from this event is likely to have a lasting impact, hampering the nation's growth trajectory and causing further turmoil in both domestic and international marketplaces.

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Construction Spending and the Wealth Effect

Analyst Haque noted that in addition to the impact of reduced construction spending, the real estate market's influence on consumer confidence will present a significant challenge. Given that a substantial portion of China's consumer net worth is tied to housing, the resulting wealth effect is likely to be a "stiff headwind" for consumer sentiment.

Economic Inertia and Policy Easing

Haque pointed out that Piper Sandler's purchasing manager index model, which tracks economic activity, indicates lower economic inertia. This suggests that Beijing will need to continue implementing measures to stimulate growth and maintain economic stability.

Yuan Stability and Stimulus Measures

Haque recommended monitoring the performance of China's yuan currency as the government implements stimulus measures. Since November, the yuan has largely remained stable in relation to the U.S. dollar. The recent decision by the People's Bank of China to cut the reserve requirement ratio for banks by 0.5 percentage points on February 5th aims to provide long-term liquidity of 1 trillion yuan ($139 billion) to the market.

Stability Goals for Beijing

Highlighting Beijing's desire for a stable yuan, Haque emphasized that last week's reserve requirement ratio cut and the resulting currency stability can be seen as positive news for the government.

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