Debt-ridden China Living On Borrowed Time

By Malladi Rama Rao

In the run up to heralding the Chinese New Year of Dog on 16th February, there was little room for cheer for the Chinese leadership and their state-controlled economy. At Davos, the Mecca of world’s finance and capital, President Xi Jinping’s top economic aide, Liu He, failed to inspire, and whatever he promised in terms of reform sounded like hackneyed rhetoric. This was in sharp contrast to the reception President Jinping received a year ago at the very same venue, the World Economic Forum.

Liu did tout China’s economic success registered in the past one year and promised to open up and reform China’s markets “beyond expectations” in 2018. Yet he failed to impress; it was largely his own fault. He avoided any reference to the deep tensions between China’s rhetoric in support of free trade and globalization, and its highly interventionist industrial policy system and policies, according to Washington based Scott Kennedy, who directs a project on Chinese business and political economy at the Centre for Strategic and International Studies.

Another contributory factor for the tepid response Liu received was the reality check that showed China in poor light. The gross domestic product (GDP) may have registered a 6.9 percent growth in 2017 and exceeded 80 trillion yuan ($12.5 trillion) for the first time since 2010.

Important macroeconomic data also shows a robust trend but the growth has come at a high price: “rising borrowing that has triggered downgrades of China’s sovereign debt rating by credit rating agencies; severe pollution of China’s air, water and soil; and persistent social problems associated with lack of job opportunities in the countryside that have forced tens of millions of workers to move to cities leaving their families at home towns.

Poverty and pollution have emerged as the main threats to the Chinese economy, and from the investors’ point of view, the risk to investment in China has come to compound matters.

On his part, President Xi Jinping is fully aware of the malaise. At the 19th National Congress of the Communist Party of China held last October, he declared that the country should no longer emphasize maximizing economic growth at almost any cost. He also signaled his resolve to address some of these chronic problems.

Xinhua news agency has struck an optimistic note nevertheless on January 19. It said China’s economy could hit its sweet spot in 2018 but conceded that the growth rate is partly credited to cyclical factors and an improved global economy.

The old economy — heavy industries and property sectors are slowing. The new economy — services and part of the manufacturing sector such as high tech is not yet strong enough to overwhelm the old economy. Analysts believe the Chinese economy is going through a phase of “creative destruction” as lively new sectors coexist with still-dominant old sectors, Xinhua report published in Global Times said.

Official data shows that just four cities, Shanghai, Beijing, Shenzhen and Guangzhou generated nearly an eighth of the country’s economic output ( $ 1.56 trillion in all) last year. This clearly shows that Jinping regime is not spreading out resources and is depending on the big four for growth. It is not a healthy trend since China lives in its villages, and semi-urban pockets.

Communist China may not believe in God but its citizens do believe in the Goddess of wealth. Pyramid schemes are growing disguised as rebates, online games, charity or poverty relief. Speculation is ripe in the housing sector, which according to the New York Times, is a casino today.

“Housing is also the source of some of the country’s biggest booms and busts. Local investors — many of whom do not trust the country’s stock markets and are forbidden by Beijing to move most of their wealth abroad — simply throw money at housing. Real estate broker fees, often as low as 1 percent, are a small fraction of the typical 6 percent in the United States,” Keith Bradsher wrote in a recent dispatch to The New York Times from Beijing.

It is difficult to believe that the Chinese President and his brains trusts are not aware of the turbulence that is round the corner as a consequence. Or the reality that vast numbers of apartments in many cities lie empty, “either because the buyers have no intention of moving in or renting out, or because speculators built homes that nobody wants”. Real estate makes up nearly three-quarters of the assets of Chinese households.

At the party Congress, President Jinping gave a stirring call against real estate speculation. “Houses are built to be inhabited, not for speculation,” he told the party faithful but his appeal has no visible impact as yet. The buying spree is prompted by the state in a manner of speaking. Local government services like admission to good schools are assured for owners of apartments in Shanghai, for instance.

Household debt, mainly in the form of mortgage loans, is growing as a result. At the end of June last year, its ratio to gross domestic product was 46.5 percent, up from 37.3 percent at the same point in 2015 and 18.6 percent in 2008. The value of medium – and long-term loans to households rose to 5.3 trillion yuan ($823.27 billion) in 2017, accounting for 39 percent of all new loans, according to data released by China’s apex bank.

Chinese numbers whether related to GDP or jobless are always suspect – “implausibly smooth and steady” as an American daily says while on the health of the world’s second-largest economy.

Problem is despite all the talk of liberalization and opening up, the Chinese economy is still largely behind a bamboo curtain. From reports in local and Hong Kong media, it is clear that doubts over Chinese official data are justified.

Over the past several months, many Chinese local governments have admitted that they have faked economic data. Nikkei Asian Review attributes this rush of confessions to “Central government subsidies for coming clean”. A growing number of Chinese local governments are owning up to having faked economic data and are moving to correct their doctored numbers, responding to a major shift in Beijing’s economic policy toward the quality of growth, it says.

Future thus may become rosy for number crunching. But what about today. Can we take the Chinese growth data on face value? My answer is a resounding no!

Consider these facts. Liaoning, the northeastern Chinese province bordering North Korea, reported an unusual 2.5 percent drop in gross domestic product last year; it admitted cooking its books between 2011 and 2014 through transaction items, forgery, tax refunds, and taxation calendar adjustments; these admissions followed probe against Wang Min, the provincial party boss.

Wangcheng district in Changsha, the capital of the central province of Hunan, faked the ownership transfer of local government buildings to increase local fees revenue by 1.2 billion yuan ($181 million). Six counties in Jilin province listed 110 million yuan in project funding and hospital revenue as revenue from administrative fees.
On Dec 8, 2017, China’s National Audit Office (NAO) said five city or county governments in Jiangxi, Shaanxi, Gansu, Hunan and Hainan provinces had incurred 6.4 billion yuan of debt through financial guarantees – a practice that has been banned by country’s Finance Managers.

The Chinese authorities estimate the local government debt at around 16.47 trillion Yuans ($2.56 trillion). “The problem is controllable and these debts can be repaid by existing assets”, says the Central government in Beijing.
There are few takers for optimism. Certainly, the rating agencies are not convinced. Otherwise, Moody’s and S&P would not have downgraded China’s sovereign credit rating!

A clear warning that debt-ridden China is living on borrowed time!

(* This comment first appeared in Power Politics)