In order to pay off the debt of local-government financing vehicles (LGFVs) and other off-balance-sheet issuers, China will let local governments raise approximately 1 trillion yuan ($140 billion) through bond sales, according to a Friday report by Bloomberg News.
According to experts, following years of excessive infrastructure expenditure, declining revenues from property sales, and rising COVID-19 costs, debt-ridden municipalities pose a significant risk to China’s economy and financial stability.
LGFVs, which cities employ to collect funds for infrastructure projects vital to the nation’s development, are thought to have 66 trillion yuan ($9.1 trillion) in total debt, according to the International Monetary Fund.
Bloomberg reported that the “refinancing bonds” program has been revealed to the appropriate authorities by the finance ministry, citing anonymous sources with knowledge of the situation. For each region, quotas have been set, it was added.
An inquiry for comment was not immediately answered by the ministry.
Chinese leaders expressed concern that a potential chain of municipal debt defaults may destabilize the banking sector and increase pressure on the faltering economy last month when they committed to provide a “basket of measures” to address local debt issues without providing any specifics.
In order to save some towns, policy consultants and economists have predicted that solutions will likely include debt swaps, loan rollovers, and potential central government debt issuance.
The reportedly new step would be modest; 1 trillion yuan is about 1.5% of the estimated total debt of the LGFV.
The second-largest economy in the world depends heavily on infrastructure improvements to spur growth. LGFVs are crucial to these initiatives. However, some analysts claim that they have developed into the “black holes” of the nation’s financial system, with rising debt loads and declining profits starting to worry investors.
“This step will help address local debt risks, and more measures will be implemented,” said Nie Wen, a Shanghai-based economist with the investment company Hwabao Trust.
Authorities “hope to gradually resolve the debt issue with a basket of measures, which could take some time.”
The action, which is a continuation of an earlier plan, will enable local governments to issue bonds at an interest rate of about 3% instead of pricey LGFV debt. Some cities and LGFVs pay interest between 7 and 10%.
Liabilities have increased despite local governments issuing 12 trillion yuan in bonds between 2015 and 2018 to replace off-balance sheet debt.
From 62.2% in 2019, local government debt increased to 92 trillion yuan, or 76% of economic production, in 2018.
In China, no LGFV has ever defaulted on the open markets, although private market defaults are rising. Recently, large state-owned banks have extended or increased their loans to LGFVs.
China’s banks often purchase the most local government bonds and lend the most money to domestic companies.
“We believe that commercial banks rather than the central government will bear most of the costs of local government debt restructuring,” ANZ analysts said in a note in late June. They added that they did not expect a significant number of defaults in the near future.
A severe downturn in China’s real estate market, which has led to an increase in debt defaults by developers, has coincided with the financial decline of LGFVs. In order to deal with pandemic spending, municipalities’ primary source of income—land sales to developers—fell off a cliff at the same time that their spending requirements increased significantly.
Except for Beijing, Shanghai, Guangdong, and Tibet, all provincial governments will be able to utilize the bonds to pay off off-balance-sheet liabilities, or “hidden debt,” according to Bloomberg.
Authorities also designated “high-risk” regions and cities, including Tianjin city, the provinces of Guizhou, Hunan, Jilin, and Anhui, and the province of Guizhou. These areas would receive greater support, according to the study.
According to economists, this month’s commitment to debt reduction was more positive than the statement issued in April by Communist Party leaders led by President Xi Jinping, who called for “strict control” of local loans.
Economists believe the development indicates Beijing has realized it has acted quickly to spend money on the issue.
