Can China reduce its debt and still grow the economy in 2018?
Beijing will have to perform a tricky balancing act and make some tough choices next year, ratings agency Moody’s says
Beijing will be playing a tricky game in 2018 if it tries to generate strong economic growth or maintain a powerful state sector on the one hand while pursuing debt reduction on the other, Moody’s Investors Service has warned.
The international credit-rating agency, which angered Beijing in May by downgrading China’s sovereign credit for the first time in nearly three decades, remains bearish on the world’s second-largest economy.
“The government has to decide how they want to deal with it [the dilemma], between on the one hand maintaining growth, maintaining the supply of credit, [and] on the other hand deleveraging and allowing more defaults,” Michael Taylor, Moody’s Asia-Pacific chief credit officer, said on the sidelines of a China credit outlook conference in Beijing.
“At the moment, we see the emphasis on deleveraging.
“But if in 2018 it starts to fit through in terms of high level of defaults … how will the government react? Pull back from the deleveraging campaigns or say this is the price we have to pay and continue?”
Financial risk management will be a top priority at the annual economic policymaking meeting to be chaired by President Xi Jinping later this month. At a Politburo meeting on Friday, the ruling Communist Party decided it would work in the months and years to come to cut leverage in China’s economy.
However, there have been numerous reversals in official policy since Xi took power five years ago. When growth has slowed or the financial market has become jittery, Beijing often has backed off and eased credit to cope with headwinds.
For instance, when the People’s Bank of China tried to boost the market rate to slash leverage in 2013, the move led to a massive liquidity squeeze on the banking system and ultimately forced the central bank to withdraw from a plan to tighten monetary policy. The pullback intensified amid an outcry over tighter local government financing in 2015.
In its latest report, Moody’s said the consolidation of power around Xi and at the central government level could increase the alignment of incentives between the central leadership and other officials, advancing economic reform and rebalancing.
But it remained “unclear whether the increased centralisation of authority” would “result in an acceleration of the pace of reform”, the rating service said.
Chinese leaders moved financial risk prevention higher on their work agenda this year, deploying prudent monetary policy and strong financial regulation.
The Financial Stability and Development Committee chartered under the State Council to coordinate regulatory endeavours took on the 102 trillion yuan (US$15.39 trillion) asset management business, last month, proposing stricter supervision criteria.
A major market concern is the extent to which policy tightening will weigh on the economy.
Although China’s gross domestic product grew a stronger-than-expected 6.9 per cent during the first three quarters of this year, it is forecast to decline on domestic tightening and external challenges such as new trade barriers from the United States.
Friday’s meeting of the 25-member Politburodid not highlight the speed of China’s growth. Instead it outlined three major economic tasks for 2018 – risk prevention, poverty reduction and pollution control – while only stating that reducing macro leverage was necessary.
More policies will be detailed at the Central Economic Work Conference, which is expected to be held on December 18-20.
A market consensus puts the government’s 2018 growth target for China at “around 6.5 per cent”.
“What the government is trying to do, at the moment at least, is to find a way of balancing all these different policy objectives,” Taylor said. “So growth could be a little bit slower, reforms might proceed relatively slowly, but stability is maintained.”
Debt, including a high level of stock market participation and a fast expanding credit-fuelled growth model, is the major concern that triggered Moody’s credit downgrade on China. Despite Beijing’s claims of progress, the rating agency said it expected the country’s total leverage to continue to increase, although more slowly than previously.
China’s overall debt to gross domestic product, a widely used measure of macro leverage, was 255.9 per cent at June 30, unchanged from the previous quarter, according to the Bank for International Settlements.
Beijing “has the capacity” and could take some steps to deal with the problem, but it had to “make the choice for the difficult trade-off”, Taylor said.
He suggested that China try combining a write-down of bad debt and finding “a way to grow the economy” without relying “too much” on credit.
Authorities have launched debt-to-equity swap programmes and allowed defaults, debt restructuring or even bankruptcy at some state-owned firms.
The latest data released by China’s central bank showed that growth in aggregate social financing slowed to 12.5 per cent in the first 11 months of the year, down from 13 per cent for the year through October.