Coronavirus: China risks local government debt surge as Beijing tries to spur economic growth

Concerns are rising that China is repeating its mistake of a decade ago by pursuing short-term debt-fuelled economic growth at the cost of long-term sustainability
Local governments are stepping up spending on infrastructure projects in a bid to offset the slowdown caused by the coronavirus outbreak and subsequent lockdowns

Coronavirus pandemic

Frank Tangin Beijing

Published: 6:15pm, 29 Apr 2020

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China’s huge stockpile of local government debt, one of the biggest “grey rhino” risks threatening the Chinese economy’s future, is set to rise steeply as local authorities rush to increase capital spending to help offset the damage caused by the coronavirus outbreak.

As Beijing discusses increasing the central government budget deficit and monetary policy easing to spur economic growth, many local governments see the situation as a golden opportunity to realise their investment ambitions, fanning concerns that China is repeating its mistake of a decade ago by pursuing short-term debt-fuelled economic growth at the cost of long-term sustainability.

In one of the latest investment drives, the southeastern province of Fujian announced on Sunday that it had signed contracts for 391 new projects with a combined investment value of 783.6 billion yuan (US$110.6 billion). Projects undertaken by central government-owned companies, which received significant lending support in the first quarter, accounted for more than half of the promised investment in Fujian, some 92 projects worth 424.5 billion yuan.

The landlocked eastern province of Anhui is also planning 2,583 new projects this year at a cost of 450 billion yuan, a third of which have been created in the last two weeks.

In addition to work on existing construction projects, costing around 850 billion yuan, the province has also prepared a list of 3,300 reserve projects with a total investment value of 5.4 trillion yuan (US$762 billion) which could theoretically be started at any point in the future, pending government approval and funding support.

“The most powerful and effective way to offset the economic slowdown is to increase the size of investments,” Wang Qikang, an official with the Anhui economic planning office said on Friday. “[We] must quicken the pace of construction, working day and night to win back the lost time [from the coronavirus lockdowns].”

Construction of high-speed railways, motorways and airports is an old tactic that Beijing dusted off after the pandemic led to a 6.8 per cent economic contraction in the first quarter.

Infrastructure construction has already been hit hard amid the lockdowns, plunging 19.7 per cent in the first three months of the year compared to a year earlier.

Many [local governments] are still striving to achieve a high growth rate without the guidance of a national [gross domestic product] target

Liu Xuezhi

“The investment stimulus mindset has hardly been eradicated at the local level,” said Liu Xuezhi, a senior researcher with the Bank of Communications in Shanghai. “In particular, many [local governments] are still striving to achieve a high growth rate without the guidance of a national [gross domestic product] target.”

Before the start of the coronavirus outbreak, Beijing was thought to be targeting a growth rate of around 6 per cent this year after achieving 6.1 per cent in 2019, although many local governments appear to be setting their own annual targets still using the original expected goal as a guide.

However, that target was never made public because the meeting of the National People’s Congress (NPC) scheduled for early March, where the growth target would normally have been released, was postponed due to the virus.

The government announced on Wednesday that the NPC will be held from May 22, when a new, likely lower, growth target could be announced.

International rating agency Moody’s warned that greater infrastructure spending would result in higher debt for regional and local governments, increasing their financial risks amid a sharp slowdown in tax revenues.

“Such investments are less likely to be a main support measure [chosen by Beijing] now given the government’s focus on avoiding a rapid increase in leverage and asset price inflation,” Moody’s analysts Michael Taylor and Lilian Li said on Tuesday.

At the end of March, local government debt stood at 22.8 trillion yuan (US$3.2 trillion), according to the Ministry of Finance. But implicit liabilities, which are hidden in local financing vehicles, state firms and public-private partnership projects, are believed to be much larger, with some estimates pointing towards an additional debt of over 30 trillion yuan.

Chinese central bank governor Yi Gang, along with other officials, have already warned against excessive economic stimulus, saying it would add risks to China’s financial system.

A key risk is that local governments are front-loading China’s long-term investment plan, especially in the railway sector, with more than 357 railway projects proposed by local governments.

Shandong province, for example, is preparing to build four new railway lines, including the Shandong portion of a second high-speed railway between Beijing to Shanghai.

“There is still a chance for infrastructure investment growth to hit 10 per cent if the government releases 2 trillion yuan (US$282 billion) in funding through local special purpose bonds and special treasury bonds,” said Haitong Securities’ chief economist Jiang Chao on Monday.

However, a local government debt monitoring report issued on Tuesday by the National Institution of Finance and Development warned that China’s local government fiscal situation is worsening rapidly as expenses surge and revenues drop.

“All levels of local governments in China will face huge debt repayment pressure in five years,” warned Yin Jianfeng, deputy director of the Beijing-based think-tank.

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