By Minxin Pei
China appeared to weather the global economic downturn better than most. But massive local government debt could bring growth to a screeching halt.
China’s remarkable economic rebound after the global economic crisis in 2008-2009 has been a source of envy and puzzlement for the rest of the world. Instead of recession, the Chinese economy has recorded double-digit growth, and is actually showing signs of overheating – a sharp contrast with the stagnation in most Western countries. How did the Chinese do it? Perhaps advocates of ‘Chinese exceptionalism’ are right after all: Beijing has found a secret formula of economic success that has eluded the West.
Part of the answer to this mystery was given in late June by the Chinese government. It turns out that Beijing has managed to keep its economy growing during the global slump by resorting to massive bank lending to local governments, which then went on an infrastructure spending binge that’s certain to haunt the country for years to come. If we remember the causes of the economic crisis that has ravaged the United States and Western Europe, the most important one is something euphemistically termed ‘credit boom’ – excessive lending and borrowing that fuelled housing bubbles and unsustainable consumption. China seems to have been afflicted with the same disease, with only one major variation: much of the debt incurred in China has gone into the infrastructure sector, not consumption. So much for Chinese exceptionalism.
Based on the figure released by the National Audit Office (NAO) at the end of June, local governments have accumulated debts totalling 10.7 trillion renminbi (RMB) or $1.65 trillion – about 27 percent of China’s GDP in 2010. Because the NAO’s figure was based on a sampling of 6,500 local government-backed financial vehicles (out of more than 10,000 such vehicles nationwide), the actual magnitude of local government indebtedness is much greater. The People’s Bank of China, the central bank, recently estimated that local government debt totalled 14 trillion RMB (most of which was owed to banks), almost 30 percent higher than the NAO figure.
Several interesting questions are raised by the revelation of local government debt in China. First and foremost, it has shown that public finance in China is in much worse shape than previously thought. On paper, China’s debt to GDP ratio is under 20 percent, making Beijing a paragon of fiscal virtue compared with profligate Western governments. However, if we factor in various government obligations that are typically counted as public debt, the picture doesn’t look pretty for China. Once local government debts, costs of re-capitalizing state-owned banks, bonds issued by state-owned banks, and railway bonds are included, China’s total debt amounts to 70 to 80 percent of GDP, roughly the level of public debt in the United States and the United Kingdom. Since most of China’s debt has been borrowed in the last decade, China is on an unsustainable trajectory at the current rate of debt accumulation, particularly when economic growth slows down, as it’s expected to do in the coming decade.
Photo Credit: David Dennis
View as Single Page
Reddit
Digg
StumbleUpon
Delicious
Technorati
Yahoo
Google
Plurk
Beaver
What a great article by someone I usually do not regard very highly, an academic. The notion put out by most elitist academic morons in the Keynesian idiocies they espouse usually reflect a complete absence of the realities of true economic activities. Accolades to profess PEI MINXIN (Wade Giles spelling used here). And even more accolades to the comments, althoug disparate, especially from Pierre, a clear anti-Fed accolyte. There are many of US out here in cyber land, the land of the real entrepreneurs where thoughts and ideas flow like the wind across many state borders and ethnic nations’ diversities. Thank you all for your comments. I will visit “The Diplomat Magazine” again even though I do not post things very often. I have a MENGZI manner.
Cheers,
Beaver
devindra sethi
An instructive article.China is a centralised command economy still with vestiges of the market economy at the fringes.The Chinese Communist Party are no babes in the woods.They have studied the rise and fall of the Soviet Union deeply.Hence the reforms institutionalised by Mr Deng Zhiaou Peng in the eighties were no ‘flash in the pan’calculations.They will last for a century at least and naturally evolve by fine tuning along the way, which incidentally have commenced.In this century the real growth of the Chinese economy at 7plus percent is a virtual certainity.This will enable the countryside to be urbanised and lift millions of rural Chinese residents from poverty.Infrastructure building in towns and villages is the correct path as China emerges from its colonial past to a front line economy of the world in this century.What is happening in China today is similar to the infrastructure build up by USA / EU in the past 200 years.The peaceful growth by China should therefore be encouraged.
The Communist party of China have cleverly adopted a ‘one nation two systems ‘ for HONG KONG & TAIWAN.This is a clever approach in that Chinese Democracy is being allowed to develop and form in these territories and since both regions are not supported financially by the mainland,a thriving market based economy now exists therein.This enables the financial mandarins in Beijing to study the effects of their policies closely.Both territories also have very strong multi billion dollar financial reserves today.This enables the Beijing mandarins to tap resources cheaply as and when required, as noticed by a few economists / entrepreneurs in the recent past.Both HONGKONG & TAIWAN are deeply embeded economies with mainland China today to their advantage. Their role as pressure valves to ease overheating of the mainland economy is simply well crafted.
The expected hard landing of the Chinese economy is unlikely,they will increase internal consumption as India has done and achieve a soft landing for the economy. The Chinese Communist Party are deeply aware that the rural countryside has to be brought in economically, front and center, or lose political power as the communist party of the USSR did.We live in interesting times.
Thomas
Let me get this straigh! China which has a little internal debt while holding $3 trillion dollars in foreign reserves in gonna collapse but the US, running trillions dollars of debt every year with over $60 trillions in debt overall including the cost of medicare for all its baby boomers is an oasis of stability??? LOL
John Chan
China vastly understates its true level of national debt, much of which is already in default: http://www.marketoracle.co.uk/Article28271.html
anon
@John Chan:
China’s coming economic malaise will make Japan’s look like a little picnic.
John Chan
@anon:
Your wish will make you lose your job no matter which country you are in, you will regret it for good. China is Japan’s only hope, without China Japan is a goner; and India will have to default on all the military orders because China would take all Indian export orders, so that India no long has foreign reserve to pay them anymore.
jim1980
“China have for the last 30 years been living on the goodwill of other countries – countries like Singapore, like USA, like Australia, like Japan – yes Japan is the single greatest investor in China – so Japan is actually helping the weak little brother who can’t stand on its own.”
This is nonsense and complete false statement. Biggest investors for Chinese economic in the past 30 years are oversea Chinese (or Chinese ethnic in other countries) and Chinese themselves. Foreign countries (like Japan) has some roles involved but in no way critical. Oversea Chinese is the difference between China and former Soviet Union when they both tried to do economic reform in 80s and 90s (i.e. China had this talent pool while former Soviet Union did not). Oversea Chinese had enormously capital and expert in doing business in Southeast Asia, of course Taiwan and Hong Kong. Only after seeing initial success, foreign countries decided to invest in China.
http://www6.cityu.edu.hk/searc/CSEA_Workshop/CSEA_Workshop/PAPERS/SeptemberSymposium/JosephCheng(Eng_rev).pdf
Reality
China’s total debt amounts to 70 to 80 percent of GDP, roughly the level of public debt in the United States and the United Kingdom.
I am a not a China supporter, nor US. But I hope the author bothers to check that US debt ratio is nearing 100%, more like 99%.
Second comment will be…for one of the comment made
China finances all those projects with RMB, which is printed thru thin air like USD. Bad loans held by the banks can be simply written off; it is way better than bailing-out, which generates inflation.
So printing money doesn’t generate inflation. Awesome point! I think that’s perfectly correct. Bailing out doesn’t require money either, but it generates inflation. Another perfect point. Ok jokes aside…
I think you might be surprised when the central bank actually did that, and you may not want to hold RMB at that time, or as a matter of fact be in China. People do age you know…
I personally think one of the bigger challenge to China right now is its demographic…
sts
i read that china is getting older and has less young people because of the one child policy.
TheRealReality
The author of this article is discussing debt to public GDP ratio, in that case the U.S public debt is 76%. Where as external debt is 100%. So the author is correct.
Whiskey
“….China finances all those projects with RMB, which is printed thru thin air like USD. Bad loans held by the banks can be simply written off; it is way better than bailing-out, which generates inflation….”
apparently the writer of this comment has no clue how monetary system or let alone a bank or “funding” institution works… how is it different than, say, US FED doing the same for its government which eventually leads to printing some more money to “fill some liability gap” somewhere else in the system.. yes, go ahead and ‘write off’ all that debt however you like, but don’t forget, that original funding is somewhere in the whole market system through some asset/liability microstructure that needs to be plugged which will eventually be done by government, if your suggestion hold valid, that will cause more printing that will trickle into the system that will expand M1 & M2 (as you wrote down, did not pay back the original funding gap)… i know it sounds all convoluted but rest assured, your claim is very flawed, indeed.
Paddy
I agree whiskey. Money does not just disappear. It is somewhere, the issue is where.
There is little difference between a centrally controlled economy like China and supposed free market economies like the US and Europe. When both regimes get into trouble the central government and taxpayer are required to bail them out. In the US and Europe the banks and failure of central banks to control them has led to financial issues. The problem for the US and Europe is the system that has let the banks lead the economies into a monetary disaster has also let the export of employment, know how and capital flow out of these regions and into China.
Where in previous depressions and recessions the stimulus and manufacturing sector were used to underpin recovery, whether it be slow or not, these industries are no longer available. They are now in China, therefore any stimulus and spending is in part also kick starting the Chinese economy. The leverage that economists look for is no longer there.
The States and local Government in the US are broke. The use of capital to hold down the majority of labour with debt (including education loans) and low wages combined with massive unpaid wealth transfers to those with capital is coming home to roost. The US is now printing money hand over fist and is still in strife. Europe is in a similar boat, the excitement in the stock markets when Portugal in return for $100 of loans funds from the EU Bank effectively paid for these with $20 and a few empty coke cans is mind numbing.
Where will it end? I would love to know……usually in a war.
P. Marchand
The instrument of value called money is & has always been printed thru thin air.
The difference between China & the US is with the US’ central bank, the FEDERAL RESERVE is privately owned. It is not FEDERAL and has no reserve. The FED’s reserve are the I.O.U’s of the US citizens via their US Treasury Bonds. The americans have to repay all the money + usury back to these enslaving Shylocks. It is mathematically impossible, where does the money to cover the interest comes from. Do the arithmetics, one has to get more debt-money to cover for the ealier debt…. The FED is such a vicious entreprise that the only way found to get it accepted was to pass the law Christmass eve while nobody was working in the government (23 Dec, 1913)
The Chinese have to seize this last window of opportunity to maintain control of their money suppply and show the world that they can manage it in a responsible manner, this appears to be the issue here as well as being pressured by exterior private banksters (N.M Rothschild and all it’s affiliates). They must expose & drive out all the Rothschild talmudic abiding usurers, their brethren and profitering lackeys. China has to get out the IMF-WORLDBANK and the B.I.S. (all under private control). China must show the world that all sovereign country must issue & control it’s money supply and conduct trade based on honest CPI (Consumer Price Index) where money exist to serve mankind and not teh opposite.
Here in the west we are the total control of these talmudic bankers and cannot even realize the griphold they have over us.
Best Regards
Pierre
Tomas
You’re very right, indeed! China is ‘very responsible’ in pegging its currency to the US dollar being called by some people the ‘ toilet papers’!! without the US & EU markets where would all the chinese exports go? To the moon?!The serious problem with the US now is its multinationals’ greedy CEOs in china and its leaders not taking the advantage of the dollar status as a global reserve and of the US as a sovereignty monetary to stimulate and boost its currently crippled economy!!So sad for the American people and also for the whole world because the global economy’s so far still dependent much on the US’s economic health!
John Chan
@Whiskey:
First of all you must P. Marchand’s comment, so you won’t continue be exploited by the Fed and its stakeholders.
The author said massive borrowing in China is a ticking debt bomb, I said that ticking debt bomb could be easily defused by writing off those debts without affecting the viability of the banks, because Chinese government is the banks’ only shareholder, and this solution cannot be applied to the westerns banks as long as they are privately owned.
The consequence of printing massive money is not the discussion here; the discussion is whether that massive debt is a bomb that will cause catastrophe consequence as the author portrayed. I said the author was fear mongering to undermine China.
Chinese government is facing inflation problem, which is the consequence of printing massive money.
You are thinking the way the author wanted readers to believe, even the author admitted the debt bomb crisis was an illusion, if you read the last three lines in his article carefully.