By Vladimir Shopov
China's impressive growth in recent decades has created a shiny image of the country that both has its merits and masks a host of problems and risks. This picture has begun to change rapidly, and the authorities in Beijing have been under a barrage of old and emerging difficulties for several years.
The transition to a new economic model has stalled, the recent years of self-closure have dealt unexpectedly big blows to the economy and investors, domestic demand has permanently contracted, more and more foreign companies are leaving the country in search of diversification, and the demographic crisis is accelerating and already affecting strategic planning. China is irreversibly losing its economic luster. Many now see serious turmoil associated with the growing debt problem. In fact, the "middle kingdom" already has a higher cumulative debt than the US, and this has been a fact since 2016.
By the end of March this year, it was already 280% relative to GDP. Public debt is just under 80%, but just a decade ago it was only 37%. The same disturbing trend is visible in private debt, which between 2006 and 2017 jumped from 119% of GDP to 210%. In recent months, the increase in indebtedness of local authorities has attracted particular attention. According to an estimate by Goldman Sachs, it is already $23 billion, and many cities and provinces are straining from their debt payments. So it is no surprise that the question marks are growing and more economists are adding this problem to the multiplying challenges facing the country.
Debt accumulation is beginning to create real problems for the various groups of institutions in the "Heavenly". Difficulties for local authorities are clearly deepening, due to the ever more dramatic narrowing of the field for using the loan tool. The main reason for this is the collapse in the real estate market, which practically feeds the budgets of subnational structures. Measures to tighten the financial discipline of companies in this sector, adopted in waves over the past few years, have changed the overall dynamics of this engine of the Chinese economy. By some estimates, it generates over a third of the country's entire GDP. The general economic slowdown and the accelerating demographic crisis create additional problems.
The difficulties are also evident from the surge in international activity of local authorities in recent years in search of any type of investor, financial or industrial. For example, the larger ones have already held a series of meetings with the sovereign funds of Qatar, Saudi Arabia, Abu Dhabi and Singapore. Guangzhou provincial authorities have set up and are raising funds for their $29 billion investment fund, and Shenzhen already has a fund for cooperation with Saudi Arabia. Local authorities are being forced to look for new sources of funds as investors in their existing funds become increasingly wary amid deteriorating finances and a deepening real estate crisis.
It is little known that sub-national governments in China actually have an unexpectedly large range of management responsibilities. The main burden of social and public infrastructure falls on their shoulders, and many of the necessary costs do not come from the central government through the system of deconcentration known in the Western world. They should fulfill goals defined in Beijing through the so-called "mandate system", but often do not have sufficient resources to carry out this task. In this sense, they have been in a mode of underfunding for a long time, which forces them not only to accumulate debt, but also to constantly squeeze the business through outright iniquities. They are also required to carry out instructions for economic development in certain sectors, further complicating governance.
The financing model through large land sales for the real estate industry has almost completely gone haywire, creating additional financial difficulties. Local authorities also spent huge sums on the "Zero Covid" policy, and its cost was one of the main reasons for its termination at the end of 2022. Against this background, it is no surprise that in various cities of the country public transport has been curtailed , shrinking social payments, reducing the salaries of civil servants. The map of these restrictions is constantly increasing, and Beijing is increasingly worried about the consequences.
In recent decades, criticism of local government structures has been one of the few permitted forms of discontent. Thousands of such occur daily with the express condition that they do not attack the party and do not question the country's political system. For example, the organization China Discontent Monitor recorded almost 700 significant manifestations of discontent between June and September 2022 alone, i.e. before the wave of protests against "Zero Covid". They have been directed against poorly built roads, poorly functioning hospitals, problems with food companies, housing funds and more. Often, anger is directed at relatively low-ranking employees whose job is to take responsibility for various problems and failures. The same thing happened when the pandemic broke out in Wuhan a few years ago. In individual cases, regional party leaders also lose their seats.
Until now, the communist authorities relatively calmly and confidently let these orders work in the described way and opened some space for the release of negative social energy and discontent. Moreover, in this way management gaps became visible and allowed some corrective measures. The authorities use this dissatisfaction and in practice assemble in real time the picture and dynamics of society, the directions of expectations, claims and problems.
However, the current debt crisis is of a different order. It affects the overall basis and functioning of the public finance system and the provision of public services. If not contained, local authorities will continue to restrict basic services and payments, especially in provinces far from the east coast of the country, where the situation is most serious.
Many believe that the indebtedness of local authorities is not really a serious problem, mainly because it is internal and mainly affects institutions of the state. There is no doubt that this gives many opportunities for partial write-offs, restructurings, maturities extensions and other financial techniques. However, the Chinese themselves are aware of reaching a ceiling in terms of the country's total indebtedness, and it is no coincidence that for several years they have been applying, albeit unevenly, various debt reduction programs.
The country cannot afford sudden movements also because it is currently opening up the finance, debt markets and asset management sectors to new foreign companies and is in dire need of credibility and stability. The last thing the authorities in Beijing need now is aggressive debt write-downs. The debt problem also has a far wider effect.
In effect, Beijing is about to lose one of the key tools for generating growth it has relied on for decades and especially during and after crises. This difficulty adds to the multiplying economic problems and forms an increasingly complex managerial and economic puzzle. The contraction of debt financing at the local level is of additional importance, due to the uneven geography of growth in the country. It is therefore no surprise that discontent is growing regardless of the authorities' attempts to cover it up. It is quite possible that the wave of protests will be the spark that will start a deeper destabilization of the "middle kingdom" and Beijing will have to hurry with some solutions.
THE BOTTOM LINE At the end of March this year China's debt reached $23 trillion or 280% of GDP.
