China has instructed its banks to embark on a mammoth roll-over of loans to local governments, delaying the country’s reckoning with debts that have clouded its economic prospects.
China’s stimulus response to the global financial crisis saddled its provinces and cities with 10.7 trillion yuan ($1.7 trillion) in debts — about a quarter of the country’s output — and more than half those loans are scheduled to come due over the next three years.
Since the principal on many of the loans is not repayable, banks have started extending maturities for local governments to avoid a wave of defaults, bankers and analysts familiar with the matter told the Financial Times. One person briefed on the plan said in some cases the maturities would be extended by as much as four years.
While some analysts have warned that many loans will still go bad and that a roll-over only postpones the problem, government advisers believe that it will give Beijing time to find a more permanent solution to its debt troubles.
“An appropriate maturity extension is in the banks’ interest,” said Fan Jianping, chief economist of the State Information Centre, a think-tank within the government’s powerful planning agency.
“From a longer-term perspective, the investment projects launched during the financial crisis will have no problem generating a return,” Mr Fan said. “It is just that many have not yet been completed. They would be under a lot of pressure if debts had to be covered immediately.”
The China Banking Regulatory Commission did not respond to a request for comment. It had insisted until the middle of last year that local governments must pay back their loans in full and on time.
However, signs of flexibility have since emerged. The idea of a one-off maturity extension was mooted by Zhou Mubing, vice-chairman of the China Banking Regulatory Commission, last October. There were also reports that Beijing was considering a bail-out in which it would assume many of the local debts.
“The local governments are implicitly guaranteed by the central government. So it was either a case of the central government directly bailing them out or of using its banking arms to relax the constraints on them. We are now seeing the latter happen,” said one person who had been briefed on the plan.
Another person with knowledge of the plan said there would not be a carte-blanche roll-over of all local government loans or a “one-size-fits-all solution” for the whole nation. Banks had been told to consider two main criteria.
First, was there real demand for the investment? Continued funding for the construction of highways would be approved but massive city squares might be cut off, he said.
Second, were the investments consistent with the government’s five-year plan for industrial upgrading and cleaner growth? In the rush to launch many projects, environmental reviews had been insufficient and careful assessments were now being made.
“It is a muddling-through process and it is ongoing,” said a second person familiar with the matter.
Anticipating that maturity extensions might be allowed, Standard & Poor’s said last month that such “regulatory forbearance” would be expedient, forestalling a surge in non-performing loans.
“But it’s also likely to undermine investors’ confidence for some time to come, underscore the developing nature of the regulatory framework and highlight the banking regulator’s lack of independence,” said S&P credit analyst Ryan Tsang.