China’s New Debt Package: Fiscal Caution Over Bold Relief
By the Basilinna Team
November 14, 2024
Your Talking Points
In another part of its “all of government” stimulus program, China’s National People’s Congress (NPC) announced a US$1.4 trillion (RMB 10 trillion) debt package aimed at refinancing local government hidden debt.
While the debt swap program does not directly authorize financing to support the flailing real estate market, the government is separately encouraging local governments to purchase empty buildings and apartment buildings and sell/rent them to youth and businesses.
Despite high expectations for stimulus, the fiscal package is more about stabilization and is in line with the government’s long-term goals for quality economic growth. Ever since the 2008 fiscal stimulus fueled rampant debt increases, the government has been wary of huge stimulus programs. This is an incremental step toward rebuilding the confidence of both Chinese consumers and the foreign business community.
But more is expected. Finance Minister Lan Fo’an also said the government is preparing to issue special purpose bonds, which, alongside other fiscal and monetary initiatives, will be rolled out over the coming months. All eyes will be on the Central Economic Work Conference (CEWC) in December for more details and confidence-building measures.
The debt package was likely finalized well before the outcome of the U.S. election. However, China, like all nations, has been preparing for a Trump win, including the potential for increased trade and economic frictions, which may influence future stimulus/economic decision-making in China.
What Happened
On November 8, China's National People's Congress Standing Committee (NPCSC) approved a proposal to refinance local government debt aimed at addressing the significant “hidden debt” incurred by provincial governments burdened by large unfunded mandates. In addition to raising the debt ceiling by US$838 billion (RMB 6 trillion), China’s Finance Minister Lan Fo'an announced that the government would allocate US$112 billion (RMB 800 billion) in special purpose bonds (SPBs) annually over the next five years, ultimately allowing up to US$560 billion (RMB 4 trillion) of hidden debt to be swapped. Combined, these debt relief measures will provide local governments with an additional US$1.4 trillion (RMB 10 trillion) in resources to address their debt burdens, alleviating financial pressure and freeing up funds to support economic growth. We expect the Central government to watch local government spending closely to ensure that it is used for productive investments or social programs to achieve long-term, sustainable high-quality growth.
Digging Deeper
This is a Bailout, Not a Stimulus
This package is a debt relief mechanism and is not designed to inject fresh money into the economy. The primary goal is to refinance local government debt by swapping high-interest, hidden local debt for lower-interest, explicit government bonds. This refinancing will alleviate immediate financial pressures potentially enabling local governments to redirect funds toward socio-economic growth projects. It should be viewed as one step in an all of government approach to reviving the economy, with a continued focus on achieving “high-quality” growth, rather than “high-speed” growth.
One Small Step Toward Resolving the Debt Crisis
The debt swap program only addresses a small portion of the hidden debt burden faced by China’s local governments. A substantial amount of this debt is held in local government financing vehicles (LGFVs), which are outside the official public budget, so the true scale of liabilities is unknown. Much of this local debt is caught up in real estate, which is underwater. The International Monetary Fund estimated last year that total local hidden debt is around US$8.3 trillion (RMB 60 trillion), more than four times China’s official estimate of US$2 trillion (RMB 14.3 trillion). Minister Lan said the debt swap program, along with other policies, would aim to reduce local government hidden debt to US$320 billion (RMB 2.3 trillion) by the end of 2028, making it more manageable. There may still be a long way to go after that, so more adjustments should be expected.
Beijing is Focused on High-Quality Growth, Not a Repeat of 2008
Expectations for a major stimulus program similar to 2008 were misplaced. While the 2008 mass fiscal stimulus program successfully minimized the impact of the global economic recession on China, the government continues to grapple with unintended consequences – including reigning in large amounts of debt. The debt swap program is also about instilling more financial discipline in local governments for the long term, particularly as the Central government prioritizes high-quality, sustainable growth focused on enhancing productivity and advancing China’s competitiveness in key advanced technology sectors.
Debt Relief is One Part of a Whole of Government Approach
In addition to the debt package, Beijing recently announced a series of policies aimed at addressing the flagging economy. These measures include aiding major state-owned commercial banks in replenishing core Tier 1 capital, authorizing local governments to purchase vacant buildings and apartments to sell or rent to young people and businesses, and providing more support for families with children. However, Beijing has yet to back these initiatives with fiscal support. More details could be outlined at the CEWC in December, where top policymakers will set economic objectives for 2025. There are high expectations for a comprehensive economic reform plan that includes addressing deeper structural issues facing China’s economy.
China is Preparing for a More Challenging International Economic Environment
Chinese leaders have continuously pointed to challenges in the external environment as a source of long-term economic risk. Facing ongoing trade tensions with Europe and others over Chinese EVs, regional conflicts disrupting supply chains, and a second Trump administration threatening significant tariffs, the external environment has factored into China’s economic decision-making. Minister Lan hinted that the Central government still has considerable room to increase borrowing and expand the deficit. Rather than deploying its full toolkit now, Beijing appears to be in “wait and see” mode. As Trump prepares to re-enter the White House, his threatened 60% tariff on all Chinese goods could knock two points off China’s GDP growth. As the external environment continues to evolve and pressure China’s economy, China’s leadership may continue to adjust its fiscal policies during next year’s Two Sessions in March.
Published by Basilinna Institute. All rights reserved.
