Local government debt in China raises risk
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China’s national audit office said Monday that local governments had amassed $1.65 trillion of debt by the end of last year and warned that much of the borrowing was unregulated and had trickled into the real estate and stock markets.
The first-of-its-kind review highlights one of the biggest risks to China’s economy, which is bracing for a slowdown this year as it battles its highest inflation in nearly three years.
About half the outstanding debt was incurred after 2009 when Beijing allowed banks to issue a record amount of new credit to stimulate the economy. Provincial, county and city level governments borrowed willingly to fend off the effects of the global financial crisis.
About 37% of the total debt went toward infrastructure construction, 25% went to public transportation, 11% was used to buy land and about 10% was spent on education, subsidized housing and healthcare, the audit said.
The borrowing went about with little oversight, which allowed municipalities to lie about the value of their collateral, improperly funnel the loans to the property and stock markets and downplay their ability to pay off the debt, auditors said.
Nearly half the debt was issued through thousands of local government investment companies whose borrowing would not show-up on municipal balance sheets [It’s unclear how the rest of the loans were borrowed]. Local governments were encouraged to set-up the companies because they are prohibited from borrowing loans or issuing bonds directly.
Beijing cracked down on the most troubled investment companies last year, ordering banks to stop issuing credit to them.
To pay off the loans, governments relied increasingly on sales of local land to developers. Experts say this contributed significantly to China’s overheated property market as officials benefited from increasingly richer land sales, which ultimately drove-up the price of property to consumers.
Some infrastructure projects such as highways and rail won’t be profitable for years, increasing the likelihood they could default on their loans.
“The ability of some [local governments] to repay the debt is low,” said Liu Jiayi, the country’s auditor-general. “There are hidden risks. And some rely heavily on land sales to repay the debts.”
Qu Hongbin, co-head of Asian Economics Research for HSBC, said policymakers can avert crisis if they can refinance the debt, which is equal to about 27% of China’s growth domestic product.
“Although the size is still manageable, Beijing needs to take immediate action to restructure these debts to mitigate defaulting risks,” Qu said. “We think allowing local governments to issue bonds to be the most feasible option in the near-term.”
--David Pierson
