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Traffic passes through a toll booth - one of the two types of projects a new Chinese local government bond is targeting. Photo: SCMP Pictures.

China creates special bond to support local government projects amid debt woes

The new type of bond will only be covered by returns from the project being funded and limited to government land and toll road projects

China’s finance ministry has created a new type of bond for local government fund raising amid rising risks and irregularities in borrowing.

Unlike the current local government bond that will be repaid from general fiscal revenue, the new type of bond will only be covered by returns from the project being funded, according to China’s Ministry of Finance.

To begin with, the new special bonds will be limited to just two types of government projects: land and toll roads. These projects, generally speaking, are often cash cows for local authorities across China. In land operations, for instance, a local government can usually make a hefty profit by taking in land cheaply and making developers pay dearly to buy it.

A new type of bond is designed to enable local governments to reduce borrowings from problematic channels. Photo: AFP

The ministry said in the statement that the provincial government will approve any new type of bond issue plans by municipal governments.

If local governments are granted a new “front door” that allows them to raise money transparently, they can reduce their borrowings from problematic channels, reducing the overall risks of China’s local government debt, according to the finance ministry.

“Such bonds provide an alternative and more transparent funding channel,” said Amanda Du, vice president of Moody’s sub-sovereign department in Shanghai.

The actual liability of China’s local governments is one of the unanswered questions about the Chinese economy, although official data showed outstanding local government debt came to 15.3 trillion yuan (HK$17.7 trillion) at the end of 2016 and below the 17.2 trillion yuan approved by the legislature.

The new bond would target local government land operations as well as toll booth projects. Photo: SCMP Pictures

China’s lawmakers have demanded finance officials provide a clearer picture of the country’s local government debt woes, according to meeting minutes published last month.

“There are new ways of providing illegal and irregular guarantees, and there’s no clear answer to the actual number of hidden debts,” lawmakers were quoted as saying. “We can’t overlook that this may lead to systemic risks.”

China’s economic officials have publicly listed local government debt risks as one of the “grey rhino” risks for the country, a risk that is too big to ignore.

The finance ministry has exposed at least five cases of local irregularities in debt raising so far this year, mostly through illegal guarantees, trust products and public service purchases. Shi Yaobin, a vice finance minister, ordered an overhaul of public-private partnership projects across the country as many local governments hide their debt through such programmes, according to a statement on the ministry’s website.
A Chinese power company use laser cannon to remove debris from a power line. Road and electricity sectors account for more than two-thirds of China’s future spending needs.Photo: SCMP Pictures

China’s infrastructure investment is expected to be slightly over US$26 trillion by 2040, or US$1.1 trillion per year, Oxford Economics estimated in its global infrastructure outlook. Road and electricity sectors account for more than two-thirds of future spending needs.

Meanwhile, as China tightens control of shadow banking activities, many local governments, already heavily indebted, are scrambling for new sources of funds to finish projects already started or to start new projects to bolster local growth.

Du with Moody’s said sales of the two types of bonds will be far from enough to cover need.

“The two bonds are used to test water. We expect expansion of issuance size over the next several years,” she said.

This article appeared in the South China Morning Post print edition as: New type of local bonds aim to avoid rising risks
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