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China’s cities are on the brink of a debt crisis

Fseveral rom At 117 kilometres, the sixth tallest skyscraper in the world, the Tower of China is an extraordinary sight – rivaling anything Dubai, Hong Kong or New York has to offer. However, upon closer examination, the building in Tianjin turned out to be of epic proportions. Construction on “117”, as the locals call it, was never completed. large sections are still incomplete; Patches of the tower’s concrete structure are exposed to the outside world. Instead of becoming a magnet for business and wealth, it has been repelling prosperity for years. Other abandoned towers surround the building, forming a cemetery for the central business district. Local officials would mask the entire area if they could.

Tales of wasteful spending have been rife in China for years, as cities and provinces racked up debt to build infrastructure and bolster the state. gross domestic product. This debt has reached extraordinary levels – and the bill is now coming up. Borrowing is often done in local government financing vehicles (lgfvs), companies set up by officials to skirt rules that limit their ability to borrow. The outstanding bonds of these entities amounted to 13.6 trillion yuan ($2 trillion), or about 40 percent of China’s corporate bond market, at the end of last year. Lending through opaque and informal channels means, in fact, much higher debt. An estimate in 2020 suggested a figure close to 50 trillion yuan.

Borrowing on this scale seemed unsustainable even during China’s era of rapid growth. But disastrous policymaking has pushed local governments to the brink, and after the rush to reopen, long-term expectations for Chinese growth have receded. The country’s virus-free policy has hurt consumption, reduced factory production, and forced cities and provinces to spend hundreds of billions of yuan on testing and quarantine facilities. Meanwhile, last year’s real estate crisis led to a 50% drop in land sales, which local governments depend on for revenue. Although both problems are now fading away — with the abandonment of the coronavirus and loosening of property rules — a catastrophic chain of events may have begun. About a third of local authorities are struggling to make debt payments, according to a recent survey. The ordeal threatens government services, and is already sparking protests. Defaults could wreak havoc on Chinese bond markets.

To make ends meet, local governments have entered more expensive and murkier corners of the market. More than half outstanding lgfv The bond is now unrated, the highest since 2013, according to Michael Chang of cgshiking, mediator. a lot lgfvIt can no longer issue bonds in the Chinese domestic market or refinance outstanding bonds. Bond payments exceeded the money received from new issues in the last three months of 2022, for the first time in four years. To avoid defaults, many are now looking to informal channels of borrowing – often referred to as “disguised debt” because it is difficult for auditors to determine how much is owed. The interest on these debts is much higher and the repayment terms are shorter than those in the bond market. Other officials went abroad. lgfvLast year, the company issued $39.5 billion in dollar-denominated bonds, many of which are now paying coupons of more than 7 percent.

These higher rates have the ingredients for a crisis. A report by Allen Feng and Logan Wright of the research firm Rhodium estimated that 109 local governments out of 319 surveyed were struggling to pay interest on debt, let alone pay off principals. For this group of local authorities, interest represents at least 10% of spending, which is a dangerously high level. In Tianjin, the figure is 30%. The city, with a population of 14 million and located on China’s booming east coast, is a prime candidate to be the default city of market panic. Although Tianjin is adjacent to Beijing, its financial situation is similar to places in the remote western and southwestern provinces. At least 1.7 million people have left the city since 2019, a measure of outflows similar to those coming from rust belt counties. The meager income from land sales could cover only about 20% of the town’s short run lgfv liabilities.

Across China, the strain on local budgets is beginning to be felt. On February 23, a private bus company in Shangqiu City, Henan Province, said it would suspend its services due to a lack of government financial support. Many others have said the same thing elsewhere. Cuts to healthcare benefits have sparked protests in cities including Dalian and Wuhan, where they were met with a heavy police presence. Local governments have struggled to pay private companies for coronavirus-related bills such as testing equipment. In some places, they also failed to pay migrant workers, which led to more protests.

Some local governments have started selling assets to try to avoid default. The recent relaxation of rules on stock exchanges could help locals raise capital from the public through listings. Governments can also start linking assets in private transactions. However, it is unclear how far officials are willing to go, or who will buy the assets on offer. Tianjin’s new business district seems to have many of the hallmarks of success, for example – not least the several rows of flashy new towers and the Porsche dealership across the street. But most of the shops on the ground floor of the project, which are jointly owned by a local government company and a private company, are empty. Local officials have begun auctioning individual floors. One such sale recently ended without a buyer.

The central government is transferring money to localities on a larger scale than ever before. More than 30 trillion yuan has been saved between 2020 and 2022, according to Messrs. Feng and Wright. that lgfv In the city of Zunyi, in heavily indebted southwestern Guizhou Province, it recently agreed with local banks to lower interest rates, defer principal payments for ten years and extend the maturity of its debts to 20 years. Such arrangements could become more common in the future. Supporters argue that they indicate a genuine desire on the part of local officials to pay their debts, an acknowledgment that it will take longer than expected.

But ever-increasing debt over the past decade suggests that many projects will never truly become profitable, says Jack Yuan of Moody’s ratings agency. troubled lgfv In Zunyi, for example, it has had negative cash flows since 2016, and there seems little hope of a turnaround. If, as Rhodium analysts ask, these governments can’t make payments when they’re domestic gross domestic product Growth has been high, often over 7%, so how are they going to manage the next decade, with maybe 3% growth?


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