💾 Archived View for gmi.noulin.net › mobileNews › 5881.gmi captured on 2023-06-14 at 15:02:44. Gemini links have been rewritten to link to archived content
⬅️ Previous capture (2023-01-29)
-=-=-=-=-=-=-
2016-03-08 12:20:00
China cannot escape the economic reckoning that a debt binge brings
Mar 5th 2016
HOW worrying are China s debts? They are certainly enormous. At the end of 2015
the country s total debt reached about 240% of GDP. Private debt, at 200% of
GDP, is only slightly lower than it was in Japan at the onset of its lost
decades, in 1991, and well above the level in America on the eve of the
financial crisis of 2007-08 (see chart). Sooner or later China will have to
reduce this pile of debt. History suggests that the process of deleveraging
will be painful, and not just for the Chinese.
Explosive growth in Chinese debt is a relatively recent phenomenon. Most of it
has accumulated since 2008, when the government began pumping credit through
the economy to keep it growing as the rest of the world slumped. Chinese
companies are responsible for most of the borrowing. The biggest debtors are
large state-owned enterprises (SOEs), which responded eagerly to the government
s nudge to spend.
State sponsors of error
The borrowing binge is still in full swing. In January banks extended $385
billion (3.5% of GDP) in new loans. On February 29th the People s Bank of China
spurred them on, reducing the amount of cash banks must keep in reserve and so
freeing another $100 billion for new lending. Signs of stress are multiplying.
The value of non-performing loans in China rose from 1.2% of GDP in December
2014 to 1.9% a year later. Many SOEs do not seem to be earning enough to
service their debts; instead, they are making up the difference by borrowing
yet more. At some point they will have to tighten their belts and start paying
down their debts, or banks will have to write them off at a loss with grim
consequences for growth in either case.
An IMF working paper published last year identified credit growth as the
single best predictor of financial instability . Yet China is not obviously
vulnerable to the two most common types of financial crisis. The first is the
external sort, like Asia s in 1997-98. In such cases, foreign lending sparks a
boom that eventually fizzles, prompting loans to dry up. Firms, unable to roll
over their debts, must cut spending to save money. As consumption and
investment slump, net exports rise, helping bring in the money needed to repay
foreign creditors. China does not fit this mould, however. More than 95% of its
debt is domestic. Capital controls, huge foreign-exchange reserves and a
current-account surplus help defend it from capital flight.
The other common form of crisis is a domestic balance-sheet recession, like the
ones that battered Japan in the early 1990s and America in 2008. In both cases,
dud loans swamped the banking system. Central banks then struggled to keep
demand growing while firms and households paid down their debts.
China s banks are certainly at risk from a rash of defaults. Markets now price
the big lenders at a discount of about 30% on their book value. Yet whereas
America s Congress agreed to recapitalise banks only in the face of imminent
collapse, the Chinese authorities will surely be more generous. The central
government s relatively low level of debt, at just over 40% of GDP, means it
has plenty of room to help the banks. Indeed, with the right policies, China
could survive a deleveraging without too much pain.
By borrowing and spending, firms boost demand; when paying down debts they
subtract from it. In the absence of new borrowing elsewhere in the economy,
growth will atrophy. China s government could try to compensate by borrowing
more itself to finance a fiscal stimulus. It might also use low interest rates
to encourage households to borrow more. (This week s cut in banks reserve
requirements seems designed to buoy China s property market.) But orchestrating
such a switch in growth engines is not easy. Firms and households might instead
be forced to deleverage simultaneously, exacerbating the pain. Household debt
in China is low but rising fast, raising the risk of a double crunch in future.
Moreover, China would have to ensure that existing bad debts are written down
and bankrupt SOEs shut a tall order politically. Reports this week claimed it
plans to lay off 5m workers, but big firms will resist a proper reckoning. The
bumbling response to the stockmarket and currency wobbles of the past year
calls into question the leadership s competence. The government may be able to
prevent an outright banking crisis, but the slump that usually accompanies a
deleveraging will be harder to avoid.
Foreign demand could perhaps help make up for the shortfall in domestic
spending. Deleveraging commonly occurs alongside large depreciations; as
spending in indebted economies falls the value of the currency declines, giving
exports a boost. That, in turn, helps put idle capacity to work and bolsters
the income of firms repaying loans. Big depreciations can also boost inflation,
helping keep the deleveraging economy out of a debt-deflation trap, in which
falling prices and incomes make debts with fixed values more expensive to
service. Countries that see big depreciations while deleveraging, as many Asian
ones did in 1997-98, typically suffer sharp but short downturns before
reverting to growth. In contrast, in countries that resist depreciation, as
Japan did in the 1990s and peripheral Europe has done recently, deleveraging is
slower and more painful.
China s government seems determined to prop up the yuan. But it may struggle to
do so while the economy deleverages. The grinding recovery that would imply has
political costs. And cutting rates to boost borrowing elsewhere in the economy
would place further downward pressure on the yuan, forcing the government
either to tighten capital controls yet more, run down its foreign-exchange
reserves or let the currency drop.
With a deft enough touch, China s debt bomb could fizzle. The rapid pace of
credit growth makes a benign outcome ever less likely, however. Given China s
size, a prolonged deleveraging would place a dangerous drag on global demand
growth, which the world s weakened economies would struggle to cope with. The
sooner China turns off the credit taps, the better.