China’s rising debt
While times have been prosperous in China, the nation faces ongoing challenges adapting from a traditional, export-driven society to one based on services and consumer demand. This, understandably, has slowed China’s GDP growth in recent years. But the country’s rising debt level is now undeniable, with potential ramifications for investors if authorities are not careful.
The Chinese government has been working aggressively to “put a floor on markets” since Moody’s Investors Service downgraded China’s credit rating earlier this year, said Tom Orlik, Bloomberg Intelligence, in a video for Bloomberg News.
“The sustained unsustainable growth in China’s credit — that exclusion in the ratio of debt-to-GDP — has rung all kinds of alarm bells and raised fears of some kind of hard landing in China if the government can’t get that leverage problem under control,” explained Orlik.
On the positive side, Orlik also suggested the impact for China should be fairly limited, given China’s vast domestic savings and the fact the country controls its capital accounts and is not reliant on foreign funds, unlike, for example, Greece during the European sovereign debt crisis and Asian nations during the Asian Financial Crisis of the 1990s.
And although S&P Global Ratings in September dropped China’s credit rating from A+ to AA–, citing heavy debt, it did raise its outlook for China to stable from negative. The stable outlook is in part a result of the government’s efforts to rein in corporate leverage, which could reduce financial risk in the medium term. And property market curbs have helped cool the residential market. MarketWatch indicates China’s housing-sales growth is at its slowest pace in more than two years, but that developers are still building at a steady clip.
The International Monetary Fund, in its World Economic Outlook released this month, urged Chinese authorities to accelerate their campaign to reduce credit expansion and its associated risks. The IMF says China’s “slower rebalancing of activity toward services and consumption, a higher projected debt trajectory, and diminished fiscal space” heighten the likelihood of “a sharp growth slowdown in China, with adverse international repercussions.”
Worldwide, following an ample credit-supply period, the IMF outlook states “a sudden tightening of global financial conditions [and an associated U.S. dollar appreciation] could expose financial fragilities in some emerging markets, imposing strains on economies with U.S. dollar pegs, high leverage, and balance sheet mismatches.”
High debt is nothing new in sovereign nations, but China’s stance as the world’s second-largest economy makes these concerns worth noting for institutional investors trying to mitigate risk in their portfolios.
