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Studies have indicated a continued controversy about China‘s mounting external as well as internal debt. Despite the absence of evidence to support the debt crisis, experts believe that Beijing has turned to massive lending for boosting economic growth. Many reports suggests that China’s rising debt may exacerbate asset quality and weigh on growth rate in the future. As per country analysts, China is headed for a financial crisis, due to its secretive loan terms and high-interest rates.
The Covid-19 pandemic was the direct catalyst for their deteriorating earnings, leading to a fresh wave of corporate defaults in China. Analysts suggested that a huge stimulus package and easy monetary policy further led to a ballooning of corporate debt. Amid a sluggish economy, loans given out in the past have turned into nonperforming debt, weighing on operations. As per data by China’s National Institution for Finance and Development, the nation’s overall debt has risen to 270.1% of GDP in 2020, up from 246.5% of GDP in 2019. In 2020, China’s total government debt stands at approximately $7.0 trn. Analysts say it is difficult for the People’s Bank of China to ward off crisis amid increasing debt load.
China’s debt woes have led to headline-grabbing debt defaults by major local companies like China State Railway Group, State Grid Corp. of China, etc. “China’s massive debt in recent years will have a very negative impact on China’s bond and equity markets,” said Paul Smillie, Sr. Investment Analyst at Columbia Threadneedle Investments.
Rising corporate and consumer debt
Big state-backed companies have been some of China’s biggest borrowers, holding the largest liabilities. In April 2021, The International Monetary Fund (IMF) urged China to address its high corporate debt levels, caused by the easy monetary policy forwarded during the pandemic.
Data by China Banking and Insurance Regulatory Commission suggested that after-tax profit declined between 14-15% for both municipal commercial banks and agricultural commercial banks. By the end of December 2020, nonperforming debt has left the balance of bad debt to grow 22% to $152.5 bn in China’s big four banks. These are the Industrial & Commercial Bank of China, the China Construction Bank, the Agricultural Bank of China, and the Bank of China.
Moreover, borrowing held by China’s government infrastructure financing vehicles and public-private partnerships is often hidden. According to analysts, these opaque lending deals usually do not appear on local governments’ official budgets or balance sheets.
State-owned banks usually prefer lending to government-owned companies, as they are considered safer borrowers than private firms. Due to this, shadow banking has also risen in China, posing risks to the financial system. Private companies have turned to financial firms outside the formal banking sector, contributing to China’s overall debt levels.
Furthermore, China’s consumer debt is the fastest-growing segment of overall debt, in the form of mortgage and consumer loans. China’s total domestic debt has risen to 335% of GDP in 2020, as per data by the Institute of International Finance (IIF).
Expansion overseas via debt diplomacy
Beijing continues to expand its global influence via financing in South Asia. Chinese government-sponsored banks have emerged as the largest bilateral creditors worldwide. The size of the Chinese debt market rose by 479% in the 10 years to December 2018, making it the world’s second-largest after the US, as per Pictet Asset Management. It is one of the biggest creditors to low-income countries and has been actively lending to emerging economies such as those in Africa.
China’s outstanding debt claims on the rest of the world rose to over $5.6 trn by mid-2020, the Institute of International Finance report suggested. This was a rise from some $1.6 trn in 2006.
Analysts describe Beijing’s approach in seizing assets as increasingly opportunistic. Many economists state that the country continues to extend loans with strings attached. China had thereby waived off debts and negotiated loans in numerous strategies to boost its economic, political and military presence over financially vulnerable countries. Foreign nations have criticized China for its predatory lending practices and rapidly emerging as the world’s biggest official creditor.
Meanwhile, China does not report on its lending. China’s lending is state-sponsored unlike the United States or Europe’s overseas lending, which are largely privately driven. And most credit rating agencies or data providers focus on private creditors. The International Monetary Fund (IMF) acknowledged that China needed further improvements in data transparency for the success of the global debt relief efforts.
To reduce the overseas debt burden, China hand in hand with the G20 Debt Service Suspension Initiative has given opportunities to alleviate debt burdens in exchange for commitments by debtor nations for “debt-for-climate” and “debt-for-nature” swaps.
Bond market facing the heat
China’s domestic $18 tn bond market, is the second-largest in the world. As per data by Refinitiv, Chinese government bonds have dominated global debt capital markets, with $394 million raised in 2019. This represented 46% of the Chinese debt markets. However, the ever-growing bond market is also facing the heat for a rising debt crisis in China.
The Covid-19 pandemic has ravaged China’s economy with high debt loads, prompting a decline in bond investment from overseas investors. With defaults on foreign bonds cropping up, Chinese government bonds registered first drop in foreign investors’ positions since February 2019. International ownership of Chinese government debt declined slightly in March to $313 bn, data by China Central Depository & Clearing Co suggested.
Failures to repay principal or interest on outstanding bonds have taken defaults on Chinese corporate bonds to an all-time high of $29 bn in 2020. Debt servicing costs for Chinese companies are also climbing, with $2.14 tn of bonds maturing by 2023.
Dealing with China’s debt crisis
Financial regulators have recently taken various measures and introduced tighter borrowing rules for China’s debt-ridden provinces. The Chinese government is making a concerted effort to avoid relying on the massive credit and infrastructure stimulus like it did in the past for economic growth.
The finance ministry has demanded a number of regional governments to clean up China’s debt crisis. It has also ordered all provincial officials to regularly report their borrowings in a centralized system since 2019.
For the upcoming financing of highway and other infrastructure projects, China also plans on launching real estate investment trusts. The country is seeking to raise money from institutional and individual investors, signaling concern over growing local government debt.
China has recently pushed for combining struggling small lenders. Mergers of banks like Shanxi and Sichuan have also taken place for the sake of maintaining China’s creditworthiness. Ratings agencies are also highlighting China’s debt crisis, raising the risk of a financial crisis or a slowdown in growth. Bond defaults by top-rated companies have also led credit rating companies to work on improving rating methodologies and rating quality.
Economists suggest that the global economic recovery through reopening from lockdowns will also the release of bad debt provisioning in China.
