China’s cash-strapped local governments accused of misusing funds as economic pressure grows

China’s audit office says local governments have misused proceeds from special purpose bonds and falsified information to receive coronavirus subsidies
23 small- and medium-sized banks were found to have understated their bad loans by 170.96 billion yuan (US$25 billion), among other financial transgressions

Bonds

Amanda Lee

Published: 9:00pm, 22 Jun, 2022

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Dozens of local governments and small- to medium-sized banks in China have been found to be in breach of financial rules, as authorities in Beijing crack down on systemic risks amid growing pressure on the economy.

A total of 10 regions misused the proceeds of 13.66 billion yuan (US$2.03 billion) worth of special purpose bonds – which are allocated primarily for infrastructure spending – on business operations and personnel wages last year, according to China’s National Audit Office.

Local government revenue from land sales has plunged due to regulatory tightening in the property sector, while the coronavirus pandemic has added even more stress.

The results of the inspection, delivered by the National Audit Office at the bimonthly session of the National People’s Congress Standing Committee on Tuesday, looked at the use of the central government budget and fiscal spending in 2021.

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With local authorities bearing the cost of coronavirus prevention measures such as mass screening, some 26 of China’s 31 provincial-level jurisdictions falsified information to obtain 543 million yuan of central government subsidies for people affected by the pandemic, the auditor general Hou Kai said at the session.

A total of 28 provinces misused 1.431 billion yuan of funds for debt repayment and infrastructure projects.

The audit report also found that 21.7 billion yuan of special purpose bond funding in 33 regions had been idle for more than one year, although it did not name the local governments.

The auditor general stressed that management of local government debt must be “standardised” and pledged to “precisely defuse” risks among financial institutions and large companies that have violated rules. Management of special purpose bond funding must also be strengthened.

Fitch Ratings expects local governments’ land concession revenue to decline in 2022, while capital expenditure is set to rise by 19 per cent year on year, as a part of the country’s countercyclical measure to stimulate the economy.

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“This will create a financing gap that will need to be funded by debt, particularly through special purpose bonds,” said Samuel Kwok, senior director at Fitch Ratings.

The 23 small- and medium-sized banks surveyed in the report were found to have understated their non-performing loans by 170.96 billion yuan. The names of the banks were not disclosed.

Nine of them had insufficient capital adequacy ratios, which measure a bank’s ability to cover its liabilities; 13 failed to manage liquidity in accordance with regulatory requirements; eight had falsified or manipulated liquidity reports; and six had come up with high interest rate products to attract depositors, despite growing liquidity risks.

Since April, depositors at four rural banks in the central province of Henan have not been able to withdraw cash, leading to protests and concerns about the spread of a liquidity crisis at the country’s cash-strapped lenders.

The audit report also found accounting fraud and mismanagement at a number of state-owned companies, as well as corruption involving government officials.