Beijing is now allowing a wave of defaults by state-linked companies in its $15tn credit market. But when leading chipmaker Tsinghua Unigroup defaulted on $450mn of dollar debt last week, it triggered cross-defaults on another $2bn, equivalent to almost two-thirds of the total defaulted debt in China’s offshore bond market in 2019.
Chinese companies have been piling on debt for at least a decade, ever since the leadership team responded to the 2008 crisis by going on a borrowing binge.
That kept China’s economy cruising, but at a cost.
The corporate debt to GDP ratio surged to a record 160% at the end of 2017, from 101% 10 years earlier. President Xi Jinping and his lieutenants vowed to rein it in, issuing directives on how money was to be loaned and managed.
A particular goal has been to curb China’s $10tn ecosystem of shadow banking. So-called local government financing vehicles LGFVs), which were established to fund infrastructure projects, have already defaulted on many trust loans, which were part of the shadow system.
Concerns have been mounting over the repayment risks for LGFVs from some provinces.
However, as a matter of fact, Chinese defaults dropped by 20% in the first three quarters of 2020 to 85.1bn yuan ($13bn), according to data compiled by Bloomberg. That was largely due to pandemic-related measures in the first half.
Defaults picked up again in the second half amid predictions for another record year. A string of defaults among state-linked firms, long considered fortified against such troubles because of their implicit government backing, has shaken investors’ confidence.
In a wide sense, debt concerns are not unique to China. Collapsing tax revenue and soaring stimulus costs mean the Covid-19-induced recession could result in a historic increase in government debt levels across the world.
By year-end, G20 economies are set to add $13.1tn to their debt stock, according to Bloomberg Economics.
For many emerging markets, dependence on external funding puts a hard limit on ability to borrow. For the group as a whole, debt is seen rising to 59.2% of GDP in 2020 from 50.9% in 2019.
China’s $14tn economy, second in size only to the US, accounts for almost a third of global growth each year. The country’s economic rebound from the coronavirus pandemic is gathering pace as the year is drawing to a close.
With the pandemic now under control and consumer spending picking up, authorities are turning their focus to longer-term growth objectives.
By allowing the defaults by a few state-backed firms, they have indicated a market-based approach in an orderly manner.
China’s top financial regulators, presided over by Vice Premier Liu He, in November pledged a “zero tolerance” approach to fraud and other violations in the bond market to protect investors.
Given signs that authorities are more comfortable letting borrowers renege on payments both in the domestic market and offshore, potential investors are reassessing risks.
And Chinese companies are now facing a reality check after years of ramping up debt.