MNI EXCLUSIVE: China Local Govts Get More Control Of SOE Debt

China is nudging local governments to help state-owned enterprises with short-term liquidity problems and assume more oversight of their debt, policy advisors said, heralding a move that could reduce support for weaker borrowers, avert major defaults and strengthen the bond market by differentiating credit.

Recent guidance from China's top SOE regulator directs local governments to set up "full life-cycle" supervision of SOE bonds and facilitate debt restructuring for companies that have defaulted to restore market confidence and prevent contagion risk.

SOEs already facing repayment difficulties should seek a debt rollover, bond swap, or a bailout fund, processes that are generally led by local governments which will now also have more authority over companies' borrowing limits and plans to reduce leverage.

While local authorities will still be able to assist SOEs on the verge of default, the guidance indicates their priority should be to control future debt growth, advisors said.

Beijing wants to take advantage of the current economic recovery to shrink corporate leverage but in the longer term it is also seeking to convince investors that there is no implicit government guarantee for SOE bonds, a belief which has skewed market pricing.

ACTIVE ROLE

Advisors see a recent move by the People's Bank of China to lift credit ratings standards as complementary to the guidance. Draft regulation posted on the PBOC's website for public feedback requires ratings agencies to build a rating mechanism centred on default rates and make timely changes to their grades.

The involvement of local authorities in resolving default risks is credit positive for SOEs as they are now taking an active role, said a government-backed think tank researcher requiring anonymity.

Help from local government is likely to take the form of setting up bail-out funds and offering market-oriented ways to alleviate liquidity shortages faced by SOEs struggling to meet their liabilities, said Liu Xiangdong, deputy director of Economic Research at the China Center for International Economic Exchanges. Authorities could also come to the aid of private companies facing similar difficulties, he added.

According to Liu Xiaoguang, head of Chinese Government Debt Research Center at Renmin University, help should go only to profitable SOEs facing short-term liquidity problems.

Zombie companies should continue to be disposed of in a market-oriented way as an important part of SOE deleveraging, said Yang Xiaoyi, researcher at BRI Data, an investment advisory firm to local governments.

CREDIT QUALITY

The overall debt-to-asset ratio of SOEs is between 60-70%, said Liu Xiangdong. A Chinese Academy of Social Sciences report shows the leverage ratio of the non-financial corporate sector stood at 162.3% as of 2020, with SOE debt accounting for 60-70% of the total.

About CNY2 trillion of non-financial corporate bonds mature in March and April, a peak period this year, with local and central SOEs accounting for 61% and 29%, respectively, a report by credit rating agency CSCI Pengyuan shows.

Nevertheless, there may be fewer defaults this year amid tighter supervision as well as improving profits due to rising international commodity prices, said the think tank researcher.

According to Liu Xiaoguang, the PBOC's push for a new ratings mechanism will bring inflated ratings to reasonable levels and could allow regulators to vary the debt ceiling for SOEs based on credit quality.

Last year, Yongmei's AAA-grade bond was lowered to BB only after the company defaulted.