China’s Problem of Local Government Debt

Published on Author santangeloz17

During the financial Crisis in 2008, China began using government debt to stimulate the economy and avoid a recession. With high-interest rates, the Chinese government has had trouble paying them off. In particular, local governments are the most indebted of China’s public institutions because their inability to generate enough tax revenue. Since 2007, China’s local government debt has doubled since 2007 from 20% of GDP to 40% of GDP today. In addition, since local governments can only borrow with explicit permission of the finance ministry, they have resorted to local government financing vehicles, or LGFVs. Since LGFVs receive money through shadow banking, it is unclear what the full amount of local government debt equals.

To try to diffuse the local government debt, China’s Finance Ministry has began to allow local governments to swap up to 1 trillion yuan of their existing high-interest debts to lower cost bonds. This will allow local governments to save 40-50 billion yuan this year alone.

Another problem China has is corporate debt. The debts of non-financial companies rose to 125% of GDP last year. Up from 72% in 2007. Although China has began to erode the nation’s debt, it is still only scratching the surface.


2 Responses to China’s Problem of Local Government Debt

  1. See the IMF Article IV review for estimates of the magnitude of LGFV debts, alongside other forms of local government debt. The numbers are large. Mr. Miller was very cynical about this process: banks operate under the belief that they’ll be bailed out if they lend a lot to politically connected firms. Separately, at least at the local level some of these entities may be “too big to fail” due to the impact it would have on regional governments and regional jobs.

  2. This type of aggressive borrowing seems like it will become highly problematic in the future, especially because China is in such danger of deflation. If the economy were to go into deflation, it is likely that the cost of borrowing will go up as many investors try to sell their bonds. Also, in the event that one of the “too big to fail” entities does fail, China’s central bank will need to take out a costly loan to keep this entity propped up.