Top Chinese banks offer 25-year loans to LGFVs to avert credit crunch in US$9 trillion debt market

Banks like ICBC and China Construction Bank have recently started extending loans to local government financing vehicles that mature in 25 years, sources said
Slumping land sales and massive pandemic-related expenditures have weakened the ability of local governments to keep LGFVs afloat

Banking & finance

Bloomberg

Published: 12:49pm, 4 Jul 2023

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China’s biggest state banks are offering local government financing vehicles (LGFVs) loans with ultra-long maturities and temporary interest relief to prevent a credit crunch amid growing tension in the US$9 trillion debt market, according to people familiar with the matter.

Banks including Industrial and Commercial Bank of China and China Construction Bank have started to ramp up loans that mature in 25 years, instead of the prevailing 10-year tenor for most corporate lending, to qualified LGFVs with high creditworthiness in recent months, said the people, asking not to be identified discussing a private matter.

Some came with waivers on any interest or principal payments in the first four years, though the interest will be accrued for later, the people said. The total size of the longer-term loans to LGFVs could not immediately be determined.

The move comes at a time when concerns over financial fragility in the world’s second largest economy – particularly among China’s local governments – have made policymakers wary of repeating mega-stimulus packages of previous downturns. Instead they have turned to credit expansion to avert potential defaults at the government level, where a broad measure of official borrowing has swollen to some US$23 trillion, according to estimates from Goldman Sachs.

Top Chinese banks like ICBC are extending loans to qualified LGFVs with high creditworthiness. Photo: Bloomberg

Media representatives of Beijing-based ICBC and Construction Bank did not respond to requests for comment.

There is also increasing focus on the US$9 trillion debt market for LGFVs. While none has defaulted on a public bond, a recent last-minute payoff of a note raised fresh concerns about the sector’s debt-servicing abilities.

At the end of last year, a LGFV in China’s poor southwestern province of Guizhou announced that it reached an agreement with banks to extend loans of about US$2.3 billion by 20 years. In addition, the company will make only interest payment in the first 10 years and pay the principal in instalments in the following decade.

Local government finances are strained as land sales – a major source of fiscal income – dried up amid an ongoing real estate crisis. Slumping land sales and massive Covid-19-induced expenditures have weakened the ability of local governments to keep LGFVs, which are mostly tasked with building infrastructure, afloat.

LGFVs have also bumped up purchases of land. LGFVs bought about 30 per cent of land sales in May, up from around 22 per cent in April, according to a tally by Huachuang Securities. That was the first month-on-month increase this year after the firms pulled back from buying earlier, the brokerage said in a report.

China’s financially weaker LGFVs face default risks: analysts

Beijing has rolled out a raft of measures to prop up the economy, including asking big banks to lower their deposit rates at least twice in less than a year to boost lending, squeezing their margins.

Tasking banks with helping the cash flows of local governments may further aggravate challenges. Banks have continued to lend to the LGFVs at low interest rates with the belief that local authorities will not let any of them fail.

While LGFVs, which usually have strong demand for loans, can easily help banks achieve their lending targets, there is a risk of creating more non-performing loans since many of the investments by the LGFVs have struggled to make a profit to cover debt payments.

The International Monetary Fund estimated in February that nationwide there was 66 trillion yuan (US$9.1 trillion) of LGFV hidden debt at the end of 2022, up from 40 trillion yuan in 2019. A quick increase underscores how local governments ramped up off-book borrowing and spending during the pandemic.