China needs bond market reforms as soaring debt poses significant longer-term risk to the country, according to S&P Global.
Despite the government’s efforts, debt levels remain very high even as nominal GDP growth has slowed, the rating agency said in a report on Thursday.
“Policymakers understand the need to simultaneously control leverage and sustain economic growth” to manage systemic risks over the long-term, the analysts noted. As a result, have tightened local government financing in recent years.
But market reforms appear to have “taken a back seat,” with authorities focused on addressing pressing issues such as the real estate crisis, stimulating economic growth, as well as keeping local government debt under control, S&P said.
Pushing ahead with bond market reforms may be necessary to “concurrently” tackle those challenges, as it could lower debt levels over the long term, the report said.
Large levels of public, private and hidden debt in China have long raised concerns about potential systemic financial risks.
In April, Fitch cut its outlook on China’s sovereign credit rating to negative, citing risks to the country’s public finances as the economy faces increasing uncertainty.
The rating agency predicted China’s general government debt could surge to 61.3% of GDP this year, from 56.1% in 2023 — deteriorating from 38.5% in 2019.
“We forecast the debt ratio to rise to 64.2% in 2025 and nearly 70% by 2028, higher than our forecast of just under 60% in our previous review,” Fitch said.
In its latest report, S&P highlighted China’s “extraordinary credit expansion,” due to high investment and lower financing efficiency as one of the major factors for fueling Beijing’s debt problems.
Large infrastructure spending and falling profitability have also led to more debt growth, the rating agency noted.
China has historically resorted to infrastructure building as a short-term fix to boost economic growth, particularly after the 2008-09 financial crisis.
Defusing risks
In recent years, Chinese authorities have stressed the need to prevent financial risks. But heavy-handed approaches to tackling problems, especially in the real estate sector, have led to unintended consequences.
The property market slumped after Beijing’s crackdown on developers’ high reliance on debt in the last three years. A protracted property downturn has not only dragged down the economy, but also weighed heavily on debt-laden local governments.
In March, the government said it will issue 1 trillion yuan ($138.9 billion) in “ultra-long” special treasury bonds in 2024 to fund big projects aligned with national strategies.
China also indicated it will improve the long-term mechanisms for preventing and controlling risks.
“We will implement a package of measures to defuse risks caused by existing debts and guard against risks arising from new debts,” Beijing said in a government work report.
Reining in debt while sustaining growth called for better efficiency of financing investment, S&P said in its latest report.
“More efficient credit allocation is key, and corporate bond reforms could help lead the way, as it is the smallest but most market-driven part of China’s young bond market,” the agency noted.
— CNBC