There Is More Debt In China Than We Can Possibly Know2 June, 2011, 18:54. Posted by Zarathustra
Tags: Debts, Economy
Earlier, I pointed out that the local governments of China have around 14.4 trillion Yuan of debts, which were raised by local government financing vehicles (LGFVs) from state-owned banks and policy banks. Thus the rough estimate for the Chinese public sector debt to GDP ratio would amount to around 74-75%.
The 75% debt-to-GDP ratio is, at best, a ballpark figure. One helpfully pointed out to me that if the debts of state-owned enterprises are counted as public sector debt as well, the consolidated balance would probably exceed 100% quite easily. Of course, it does not mean anything by itself except that it is a huge number. As long as the government has enough tax revenue to cover the expenses of running the country as well as to service its debt, the debt burden is probably not a problem at all. And so far, that seems to be the case.
Turning to the private sector, one has to say that it is also loaded with debts, contrary to some people’s belief that the China economic growth is driven without much leverage. Listed Chinese real estate developers have 1 trillion Yuan of debts, for example. Credit and monetary tightening in China has also led to increased lending outside of the formal banking system, as George Soros has rightly pointed out earlier this year. One should also remember the stories of the increased lending from loan sharks and pawnshops. These loan sharks, in particular, can be charging 8-10% interest rates per month to borrowers, who are struggling with weaker sales and lack of bank credits. For the borrowers, they have no choice if they want their businesses to have a chance to survive.
Professor Victor Shih, the one who has probably come closest to the LGFVs debts estimate rather long time ago (well before anyone who realised there is a problem), wrote on FT beyondbrics about the recent boom in non-bank credit. As he pointed out:
Chinese media reports suggest that there is now an enormous pool of underground loans, possibly totalling in the trillions of renminbi, although the government has not released an exact figure. In any event, the government may have a hard time tracking such loans, which often transpire through a handshake between two individuals.
In any case, we simply have no idea about the exact amount of debts around the Chinese economy, both public and private sector included, nor do we have any idea on whether these debts in the system are sustainable because we have no answer to the first question. At best, it is fair to say that there are a lot of debts, and the level of debts we now know about is at best the lower-bound of what the reality is.
Although there has been no problem for now, no one knows when there will be some. As Victor Shih pointed out:
When people are borrowing such large amount at such high rates, one must wonder what the end-game is. What sort of business can generate the spectacular returns necessary to repay these high interest loans? If some are unable to repay, would it affect other debtors’ ability to repay their creditors?
The good news is, one can point out that Chinese people have huge savings, which will be more than able to fund these liabilities. The bad news is, that’s true for Japan as well, but the fact that there was enough saving did not stop the balance sheet recession.
In any case, Richard Koo’s judgment is right: China looks like a perfect candidate for balance sheet recession if there is any recession in the near future. The question then is what the Chinese government can do. Richard Koo’s policy prescription is to get yet another massive fiscal stimulus to build something, which will be large enough to offset deleveraging in other parts of the economy.