China’s Local Government Debt Crisis

December 8, 2011 Updated: December 13, 2011
Shanghai Skyscrapers
Skyscrapers in the financial district of Shanghai on Dec. 9, 2010. Hong Kong professor Larry Lang said in an Oct. 22, 2011 closed-door speech that all levels of government in Shanghai have gone bankrupt. (Philippe Lopez/AFP/Getty Images)

When Hong Kong economics professor Larry Lang Hsien Ping gave a closed-door speech in Shenyang, China, first reported by The Epoch Times, he predicted that China would soon experience an “economic tsunami” in large part due to burgeoning local government debt. The performance of bonds recently issued by China’s local governments helps illustrate Lang’s thesis that “every province of China is Greece”—bankrupt with no easy way back to solvency.

The size of the debt accrued by China’s local governments cannot be accurately estimated from China’s official figures, which are notoriously unreliable. According to data published by China’s National Audit Office in late June, the country’s local government debt had reached 10.7 trillion yuan (US$1.68 trillion) by the end of 2010.

Lang claims that the actual debt is about 36 trillion yuan (US$5.66 trillion). His figure includes 19.5 trillion yuan from Moody’s July estimate plus 16 trillion yuan borrowed from state-owned enterprises. China’s total gross domestic product is 40 trillion yuan (US$6.2 trillion).

Local Government Bonds

In an effort to resolve the local governments’ debt crisis, China’s State Council in late October, for the first time in 17 years, approved a pilot program to allow four local governments to sell bonds directly. Shanghai was the first to issue 7.1 billion yuan (US$1.12 billion) in bonds on Nov. 15, followed by Guangdong Province, Zhejiang Province, and Shenzhen City. However, the yields of all four new government bonds were exceptionally low, even below the current rate of central government bonds.

On the surface, the sale of the new bonds was met with strong demand. However, some analysts commented that behind the “distorted” bond yield rates is an “abnormal” relationship between power and market, which goes against the market-driven mechanism.

Chinese economist Dr. Ma Hongman said in an article published on Yangcheng Evening News that the lower bond yields are due to the central government’s direct credit endorsement of the bonds.

“Banks who underwrote the bonds would rather lose a little to help local governments reduce their borrowing cost now in the hope of attracting large deposits from them in the future, which translates into good overall profits,” reported Hong Kong’s Economic Journal, as quoted by Voice of America.

“This kind of administrative measure might help push the sale of the bonds at the beginning, but in the long run it won’t resolve local governments’ debt crisis,” noted Beijing-based Caijing Magazine. 

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