China to Allow Issuance of Local Gov’t Bonds
China debt institutionalizing as bank default fears loom
Oct. 21 – China’s Ministry of Finance has instigated a trial program that will allow four select local governments to issue bonds directly. To date, this route to raising funds has been banned, however rising debt levels and bank loans about to fall due have made the issue a pressing one for Beijing. Concern over local governments defaulting on debt has prompted the trial. China’s National Audit Office has stated that 25 percent of China’s RMB10.7 trillion (US$1.67 trillion) will fall due by this year end, with about 17 percent due next year and 11 percent in 2013.
The trial, which will involve the provinces of Zhejiang and Guangdong and the cities of Shanghai and Shenzhen, will see these respective governments issue bonds in three and five year tranches, with total amounts being limited by annual quotas set by the Central Government. Although the scheme adds to the local governments’ longer term debt problem, it should help them from defaulting on current loans due. The move should also assist with spearheading a drive into more transparency in local government finances, as institutional investors will be more demanding over risk assessment than the Central Government may have been.
Although the four locations chosen are among China’s wealthiest, the reaction from investors will dictate whether this move is rolled out to other governments. Issuing bonds should also take some of the pressure off local governments in raising capital, many of which have resorted to land sales, which have driven up prices and created a property bubble. While land sales alone accounted for some 40 percent of local government income last year, debt has risen far more quickly than revenue generated. According to Standard & Poors, the fiscal revenues of local governments in China increased by 20 percent in 2009 while debt doubled.
Meanwhile, other local governments are resorting to other tactics to try and prevent bank loan defaults. The Shanghai Government has recently restructured short-term payable debt into a longer term plan, while Yunnan Province has injected capital into a local finance vehicle to prevent default on some RMB100 billion. With some 42 percent of local government debt falling due over the next 12 months, actions may need to be swift in order to avoid problems.