China’s local govt debt raises alarm

China’s local govt debt raises alarm

By Valarie Tan
POSTED: 07 Nov 2013 09:44
Economic reform is likely to be the centrepiece of the Chinese government’s 3rd Plenum which begins this weekend and the worrying debt pile amassed by municipal governments may come in for some attention at the meeting.

BEIJING: Economic reform is likely to be the centrepiece of the Chinese government’s 3rd Plenum which begins this weekend and the worrying debt pile amassed by municipal governments may come in for some attention at the meeting. A national audit that began in July is reportedly completed and it is estimated that local government debt has doubled in the last two years. Analysts say harsh measures to rein-in the borrowing may be planned. At the infamous ghost city of Ordos in Inner Mongolia, the local government is said to have spent an estimated 350 billion yuan (US$57.4 billion) on ambitious infrastructure projects in 2012 – a 20-fold jump from just 17 billion yuan in 2000. It is one example of mounting loans taken out by local governments in China to spur investment and boost growth numbers, prompting Beijing to order a national audit in July. Analysts estimate that local debt will total between 14 and 20 trillion yuan last year, nearly double that of 2010 during the last audit. The worry now is whether governments can pay back what they borrowed.Fan Wei, chief analyst at Hongyue Securities, said: “At the end of 2012, total liabilities of local governments stand at 19.4 trillion yuan. Income for the same period including financial, funding and profits of central state-owned enterprises is 14 trillion. This means the proportion of liabilities to income is 136.4 per cent.

“From that perspective, if huge amounts of loans are due, it’s a huge liquidity risk on local officials.”

A possible default could hurt investors who bought these government bonds through wealth management products.

To make repayments, authorities could sell holdings in listed state-owned firms whose total value stands at five trillion yuan, according to UBS.

While Beijing has the cash to absorb the debts, analysts say the central government may just let some local officials default as a deterrent.

Associate Professor Zheng Chunrong from Shanghai University of Finance, said: “The best move by the central government is to let the loan default completely. Why? For small areas, the social impact will be small but it will be a lesson for investors to know that lending to local governments is not fun and the state council will not save them.”

To prevent local government loans from swelling further, analysts expect Beijing to also set clear indicators as to the amount local governments can borrow and banks can lend in proportion to the region’s GDP and budget.

However, this could also mean tolerating slower economic growth since authorities may have lost one way to fund infrastructure spending.

Among the reforms some have said are possible at the Plenum to ease the debt burden, Credit Suisse and Deutsche Bank say the local government financing vehicles, which are used for much of the borrowing, could eventually be replaced by developing the municipal bond market.