Why doomsayers need to put China’s credit risk into perspective
Thomas Deng says the mainland’s debt-to-GDP levels are high but manageable, and they will not trigger the economic collapse that some are predicting
If you haven’t heard, China is heading for a credit apocalypse. Or that is what many industry experts and respected media would have you believe.
Indeed, the nation’s credit has soared since the global financial crisis – its running tab of debt quadrupled between 2007 and 2014 to around US$28 trillion. China’s total leverage in terms of real economy debt-to-GDP now stands at almost 200 per cent, a level similar to that of other debt-laden developed nations like the US, UK, South Korea and Canada. China, however, is not a developed nation: its per capita GDP is only 20 per cent of the US’. The situation is ringing alarm bells for investors and China-watchers. But not only is credit risk in China manageable, the economy also has room to absorb further leverage.
Let’s put the nation’s credit into perspective. A country’s overall real economy debt takes into account the total leverage of households, non-financial corporates and governments. Chinese households and governments have very low debt in a global context. Both have the capacity to take on higher debt.
This leaves China’s non-financial corporate debt, which ballooned to 129 per cent of GDP in 2014 and now ranks among the highest in the world. Yet, this figure is misleading. Approximately half of China’s non-financial corporate debt comes from its inefficient state-owned enterprises, the debt-to-equity gearing of which is 10 per cent higher than that of privately-owned listed companies. This is a legacy of China’s unfinished economic privatisation; state ownership enhances the government’s ability to control debt issuance, which encourages SOEs to borrow beyond their means. But this is changing – SOE reform has become a rallying cry.
China’s debt is also held entirely by domestic investors, giving it significant influence over creditors and providing policymakers with room to support growth while avoiding systematic risks.
China has a unique arsenal with which to combat high levels of debt, the centrepiece being its stockpiles of foreign exchange reserves. The country also has stakes in over 50 per cent of Chinese companies listed both onshore and offshore. This is worth US$5 trillion, equivalent to half of the nation’s GDP. Central and local governments wield control over other large, unlisted companies.
The government has already implemented more rigorous regulation and introduced greater transparency and efficiency to its debt restructuring programmes.
In a shift from established practice, it now permits companies to declare bankruptcy if they cannot meet debt obligations. While this inflicts pain, it will help instil better credit risk discipline.
Thomas Deng is UBS regional chief investment officer for Greater China and chief China strategist