China debt: Guizhou among indebted western areas facing ‘greatest’ repayment pressure amid default fears

China’s underdeveloped western areas, particularly the heavily indebted province of Guizhou, are set to face increasing pressure over the next five years due to rising debt levels that could potentially trigger risks in the state-dominated banking system, according to a new report.

Caixin reported last week that a state-owned investment company, Zunyi Bozhou District State-Owned Assets Investment and Management Group which is better known as Bozhou Investment, defaulted on an infrastructure trust loan worth 255 million yuan (US$40 million) that was due on January 10, citing unidentified sources.

It added that Chinese investment management company Citic Trust is in talks with the district government of the city of Bozhou and Bozhou Investment itself to discuss repayment of the loan.

It is the latest in a series of debt problems for Guizhou, with several of its cities and counties defaulting on debt repayments over the past few years. 

In late December, a Shanghai court ruled that the city of Zunyi in Guizhou must repay Zhongtai Trust a total of 267 million yuan on a three-year loan that it raised in 2016 via a local government financial vehicle (LGFV).

“The weaker the economy is, the greater the debt repayment pressure will be. In the next five years, the debt repayment pressure will be the highest in the western underdeveloped areas, followed by the central and moderately developed areas, and the lowest in the eastern developed areas, and the gap between the regions will be larger and larger,” said the report this week published by the National Institution for Finance & Development (NIFD), a government-linked think tank.

“Once there is a default on local government debt, it will have a strong shock on the overall credit of local governments, and further increase the risk in the banking system, especially the local commercial banks.”

To relieve local governments who have seen their revenues decline due to the fallout from the coronavirus pandemic last year, Beijing boosted its subsidies to regional governments to a record high, according to the report.

“In 2020, the central government’s transfer payments to local governments were 8.39 trillion yuan (US$1.2 trillion), an increase of 12.8 per cent, the highest growth rate in recent years. At the same time, an additional 2 trillion yuan of special transfer payment funds went directly to the city and county levels,” the NIFD report added.

The NIFD report also estimated that, at the end of 2020, outstanding local government bonds and debt on LGFVs increased to 25.5 trillion yuan and 10.7 trillion yuan, respectively, representing an overall rise of 20.2 per cent compared with 2019.

Accurate figures on the overall debt levels of China’s provinces are not available as the numbers provided by local authorities often do not account for funds raised via the LGFV model which often creates off-budget or so-called hidden debt.

For Guizhou, which has relied on fixed asset investment to boost its economic growth over the past few years, there have been questions over the benefits of such expenditure, some of which have led to costly construction that has not added value to the economy but only brought on more debt.

A viral video last year documented some of the half-finished construction projects in Guizhou’s Dushan County, prompting county officials to admit to “reckless borrowing”.

While local governments have already struggled with falling revenues as a result of slow growth from the coronavirus pandemic, confidence in the ability of local governments to repay debts was hit by a series of unexpected defaults by state firms controlled or owned by major provinces late last year.

One of them is mine operator Yongcheng Coal & Electricity Holding Group, which is owned by the Henan provincial government, that defaulted on payment of a AAA rated 1 billion yuan (US$155 billion) commercial paper in November.

Guizhou’s official gross domestic product was the highest of all provinces in 2019 at 8.5 per cent, but its debt level was also the highest when compared to its revenue.

The province’s overall outstanding debt, according to estimates by GF Securities, was 7.24 times more that its revenue in 2019, topping all provinces in terms of leverage

China Merchant Securities estimates that one of Guizhou’s LGFVs in the city of Zunyi has already had to refinance at least 8.98 billion yuan (US$1.4 billion) worth of debt in 2021.

Over the past few months, the Guizhou government has already tried to defuse some of its debt pressure by tapping the resources of the corporate parent company of Kweichow Moutai, the producer of the luxury fiery spirit brand, to buy up the debt of struggling state firms in the province.

The share price of Kweichow Moutai, which is the most successful company in Guizhou, has more than tripled in the past two years, making it one of the world’s most valuable alcohol companies.

Its state-owned parent, China Kweichow Moutai Distillery Company, holds a 58 per cent stake in the company and agreed in December to transfer a 4 per cent stake to a different entity affiliated with Guizhou province.

Although Guizhou has sought to reassure the public that it will be able to meet its debt obligations, and has been able to enlist its assets to strengthen its balance sheet, analysts believe the province is likely to need to rely on funding from the central government to deal with its mounting debt.

“Given Guizhou’s huge debt pile, although there is belief in Moutai, the current equity transfer is still a drop in the ocean. Therefore, Guizhou’s overall debt is still dependent on the central government transfer. Even in the long run, the policy tilt represented by the transfer payments is very important for debt reduction and development,” said a research note by YY Rating last month.