MNI: China’s Local Governments Pile On Debt In Growth Hunt

China’s local governments are expected to issue more than CNY3 trillion in special bonds in 2023, with some of the funding backed by projects with marginal returns as debt-burdened cities and towns scramble to raise funds to support growth as once reliable land sale revenues have been squeezed, advisers and analysts said.

Local governments are under pressure from the central government to invest more to support an economic recovery, even as interest and principal payments on debt accumulated during the pandemic grows as proportion of expenditures. (See MNI: China Must Target Growth Above 5%, Refine Covid Controls)

“China is likely to set the quota of new local government special bonds at about CNY3 trillion in 2023, slightly lower than the CNY3.65 trillion set for this year,” said Zhang Yiqun, director of a fiscal studies institute affiliated with Jilin province's finance department. Special bonds must be backed by cash flows from a specific project.

Local governments sold over CNY11 trillion of special bonds over the past three years, maintaining a fast-paced expansion to support growth during the pandemic, Zhang said, adding the pace was unsustainable over the long run but necessary as Covid sapped private investment.

Issuance of more than CNY3 trillion next year was viewed as reasonable given half the funds would be allocated to ongoing projects, said Yang Xiaoyi, a senior researcher at BRI Data, an investment advisory firm to local governments. She said the injection of funds should help infrastructure investment maintain current growth rates, with investment up 8.7% y/y in the first 10 months.

RUBBERY FIGURES

Some financial projections for local government projects backed by special bonds have strained credibility. A quarantine centre proposed by Fushan district in Yantai city, Shandong province, proposed to cover repayments on CNY340 million in debt from parking fees and meals served during the quarantine, followed by rental income from converting it to a warehouse or nursing home when the pandemic ended.

“There is little risk of defaulting, as local governments will be the final responsible party to the repayment of these public welfare projects,” said Zhang. Yang said it was difficult to compare revenue with those available on commercial projects, which are funded by banks, as special bonds address a lack of funds for building local infrastructure and public service projects.

It was not uncommon for local governments to exaggerate the revenue just to acquire funds, said Yang. “Local governments are allowed to roll over maturing special bonds to avoid default risks.”

FISCAL BURDEN

Local government face difficulties in repaying debt on lower land sales and high Covid spending. Some CNY3.66 trillion of local government bonds (including general and special bonds) will mature in 2023, a record yearly high, according to Wind Information.

“One of the fastest growing fiscal expenditures in recent years is debt and interest payment,” said Zhang, noting growth in some provinces was close to 20% y/y.

The central government had allocated larger special bond quotas to developed provinces and demanded they take the lead in stabilising investment, said a researcher at a government-back think tank, asking for anonymity. Less developed regions have mainly been allocated refinancing bond quotas to ease repayment pressures, the researcher said.

Despite calls for the central government to use its balance sheet, direct investment by the central government is viewed as having a limited role in stabilising growth as it is up to local authorities to organise land, energy, and other resources needed for construction. Central government transfers to local government may not guarantee investment as funds may be directed to other uses like salaries, the researcher said. At least special bonds are tied to the delivery of a project. (See MNI: Chinese Developer Defaults Loom Despite Property Support)

Zhang believes the central government may slightly increase its bond issuance to help fund some cross-region projects such as railways, water conservancy and power grids. The budget deficit-to-GDP ratio may rise close to 3% in 2023 from 2.8% in 2022, he added.