China | `You're on your own,' finance ministry tells bondholders
That abandoned feeling: The central government has removed any illusion held by investors that provincial officials will do everything they can to bail out regional SOEs. Photo: Reuters/Jason Lee
That abandoned feeling: The central government has removed any illusion held by investors that provincial officials will do everything they can to bail out regional SOEs. Photo: Reuters/Jason Lee

`You’re on your own,’ finance ministry tells bondholders

Beijing pulls safety blanket from investors dreaming of implicit guarantees on all local government debt

November 4, 2016 7:46 PM (UTC+8)

Investors might want to think twice before lending money to one of China’s state-linked enterprises. That’s because the Ministry of Finance has at last pulled the plug on “implicit guarantees” for the massive pile of debt racked up by entities associated with regional governments.

“The debt of local-government owned enterprises — including financing vehicles — is not government debt,” the ministry said in a statement released today. “Local governments will not assume responsibility for repayment of these borrowings.”

By drawing a clear line around what constitutes legitimate municipal debt, Beijing has removed any illusion held by investors that provincial officials will do everything they can to bail out regional SOEs. If fact, as the ministry makes clear, they are banned from doing so. In cases where the government holds an equity stake in a business, it should be treated like any other investor — with the same limited liability, it said.

Today’s statement provides clarity about the implementation of China’s budget law that took effect on January 1st 2015.

Local government debt stood at 15.4 trillion yuan (US$2.3 trillion) at the end of 2014, with contingent liabilities — which the finance ministry has not explicitly defined — adding a further 8.6 trillion yuan to the debt tally, according to the statement.

Any outstanding borrowings that didn’t fall under the strict definition of local government debt at that cutoff date must be repaid by the entities that raised the funds, it said.

It isn’t clear how much contingent liabilities have risen as the government no longer publishes these figures, though it is estimated at between 7 trillion and 10 trillion yuan. Adding that burden to local government liabilities would push China’s local debt ratio to a level that would worry investors.

Local government debt remains under strict budgetary control, the statement said, and reached 16 trillion yuan at the end of last year. The National People’s Congress, China’s legislature, approved a total debt level of 17.18 trillion during 2016.

Reuters news agency added: The ministry said it would continue to allow local governments to swap high-cost maturing debt for lower-cost debt, a program it kicked off in 2015.

Steps will be taken to “meet local governments’ reasonable financing needs to support steady local economic growth,” the ministry said.

“Local governments will continue to issue bonds to replace the existing debt to help reduce interest burdens, ease debt repayment pressure and guard against financial risks,” it said.

Under the swap, local governments issued 3.2 trillion yuan in bonds in 2015 and the ministry said by the end of September this year the total had risen to 7.2 trillion yuan. The swaps would cut local government interest payments by 600 billion yuan over 2015 and 2016.

The ministry said local government fiscal revenues would maintain a medium-to-high growth rate, which would help control local debt risks.

Local government debt was 89.2% of revenues in 2015 — below the international warning line, and 38.9% of gross domestic product, lower than most emerging economies, the ministry said.

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