To bail or not to bail?: China’s Debt Crisis 

Introduction

The Silk Path weaves itself into an inescapable trap. The Trojan Horse armed for neocolonist and authoritarian agendas seems to have shelled the country’s own economy. Beijing finds itself stranded in an economic minefield. President Xi Jin Ping’s beloved pet project has bit him.  

The irony shines through, as China finds itself victim of the project it pursued so passionately, one that pushed several countries off the cliff into a heavy debt crisis. 

Yes, I am referring to none other than the infamous Belt and Road Initiative or BRI project.  

Having backfired on a massive scale, the world now observes that behind the glory BRI boasted, is a myriad of horrible decisions, bad loans, and poorly structured programs. As the first sign of trouble makes its appearance, we see China finds its hands tied, when it comes to assisting their own local governments from defaulting. 

To start from the beginning, 

The Chinese local governments currently find themselves in a debt of anywhere between 5.14- 8.13 trillion dollars which roughly translates to 44% of China’s GDP. It feels as if suddenly, almost overnight, the economy has come on the verge of collapsing.

However, just like Rome, this astonishing amount of debt did not get collected in one day. So who is the main culprit to blame?

LGFVs: A Formalized Corruption

Finding its origins in the 1990s, the Local Government Financing Vehicles (LGFVs) are special entities that allow the local governments to circumvent and dodge all borrowing rules of the government and raise money off the books. In the face of the President centralizing his power, the local governments were able to assert a certain amount of influence and power due to these unprecedented funds, using it to undertake various developmental activities. 

In today’s times, LGFVs still run efficiently with the government borrowing from multiple influential creditors and sometimes sourcing their funds from more informal sources such as asking for money on ‘WEchat’ in amounts as low as 10,000 yuan.

However, as of December 2022, local governments are failing to keep up with these loans, seeking a bailout from the lenders. So far, terms of loans have been renegotiated with the local governments being provided with extension and reduced interest rates. 

Operating for more than 30 years, what can be blamed for the sudden failure of these LFGVs?

Down, down comes crashing the property market

A major source of local government revenue was earnings they got from selling land-use rights to the private developers. However in wake of the liquidity crisis, the property market grows more and more sluggish with private developers bringing a sudden halt to land development. As a result, the LGFVs that depend on land sales to pay off their debt, find themselves in the midst of a new crisis.

Lack of structure and planning

Most of the activities, as argued, taken up by the government is for societal welfare which has lagged in generating enough returns for the state. Consequently, the government is required to borrow at even higher rates. However as the government slowly loses its credibility in the eyes of creditors and investors, the government would soon be left to fight this crisis alone. 

All this paired with the never-forgotten pandemic controls, leave authorities struggling with more debt than they can handle. As the government scrambles to raise money, we see how the people are already facing dire repercussions.

Fallout of crisis

While arising from local decisions, the effects that spillover certainly don’t restrict themselves to a certain province or district. With the socio-economic tensions already riding high, the debt crisis certainly hasn’t had a positive effect. 

With the issue at hand, Chinese citizens have to come to terms with reduced wages and decreasing job opportunities. 

One recent development includes the rise of the retirement age and cutting medical benefits. This rouses anger in both the youth ( whose access to jobs is being limited) and the elderly (who are being robbed of the benefits they were once ensured). 

As the situation escalates, provinces such as Heilongjiang are having to undergo rigorous fiscal restructuring which, unfortunately, means minimized government subsidies and investment in infrastructure projects. 

As the people face considerable turmoil, everyone turns to the Leader Jingping to provide them with adequate support and guide them out in such trying times. 

However the Central Government’s response hasn’t been all that supportive.

The Supreme Commander and Savior bows out 

As the local government falls to the President’s feet for assistance, the Beijing government steps back, clarifying it is not coming to their rescue. Rather, as clarified by Premier Li Keqiang and the Finance minister Liu Kun ‘ China will deal with the hidden outstanding debt in a law based market oriented manner in a law based, market-oriented manner without resorting to central government bailouts’. 

“If it’s your baby, you should hold it yourself;The central government won’t bail [you] out.”

-Liu Kun, Minister of Finance

While this approach may seem pure-spirited and moral to some, there might be some additional reasons for Beijing’s hesitance. 

Surprise! We are out of money too 

Well, it turns out a major reason why the government might be pulling back from providing support to the local governments is because the Chinese government is running out of cash too. This brings the discussion on the infamous Belt and Road Initiative, a chain of bad loans and poor decisions that have at least caused 78 Billion dollars invested in the project to fail. 

While painted as one of China’s most glorious programmes, the string of failed infrastructure projects and collaborations with Low-Middle income countries (LMIC) the initiative has pushed these countries to become heavily indebted. 

For countries with a new and fragile economy such as Sri Lanka or Pakistan, IMF and World Bank have asked them to forgive debt to the poorer nations. As a result, China has been providing emergency financing, spiking during 2016. 

Having already spent about $240 billion in an attempt to bail countries such as Argentina and Kenya, China became the world’s largest official creditor in October, 2022. 

Moreover, securing the BRI projects has also become a rather ‘costly’ business, with the Chinese agencies often supplying unregulated amounts of money to the Host country’s politicians and military officials to convince them to take up on infrastructure development under BRI. 

In other words, as China comes to the ‘aid’ of these countries and ‘maintain’ a good image for the BRI, it is forced to overlook the concerns nearer to home. 

An Introspection

Firstly, Whether China admits or not, it is clear to see that the debt problem is a major barrier to the economic recovery of the country. Therefore, to treat this as an issue to be dealt with by the local governments is ignorant. 

As the Finance minister put in stern words, the Beijing government banks on the idea that the Local government’s problem is not their problem. This only goes to show the level of disunity and disconnect between the Local government and the Center. Essentially, the financing vehicles came up due to the lack of enough funds being provided to the local government by the center, indicating that local governments have always been tools supplementing an increase in the Center’s power rather than their own entities. 

To claim that the Local governments can’t ‘offload’ their problems on the central government is to say that the Local government manages its own problems and the center only shares in its victories. 

Now, while providing help to the local governments might be a ‘moral hazard’ or set a wrong example for the future, the problem that exists i.e the pile of debt in front of them isn’t resolved. No matter how the government would like to play it out, the only realistic alternative is providing financial assistance to the local governments. 

To deal with corruption or the legality is only one facet of the issue,which, don’t get me wrong, is ideal. However to prevent a domino effect, where all provinces default their loans leading to complete chaos, the debt problem can no longer be shelved for later. 

Secondly, the lack of transparency and formality in the transactions and loans provided and taken by China sets a dangerous precedent for the entire world. Essentially, in enacting as an international crisis manager, the country projects its position as a superpower at par with the US. Therefore, the practices they carry out become the standard for the international financial system. 

To practice such a degree of secrecy, not only their internal affairs, but in transactions they make with other countries as well, blocks us from assessing the gravity of the situation. For eg: Due to lack of public information regarding the terms of the  loans taken by countries from China under BRI, we fail to assess the creditworthiness making it difficult to predict future trends. 

Similarly, the ‘hidden debts’ of the various provinces in China are misleading and stand to cause China large loss of revenue. 

To conclude with, the question of bailing out local governments becomes a concerning one. On one hand emergency bailing is a risky business, especially when it is hard to predict how long the liquidity crisis will last in the country. On the other hand, the local governments are in a bind and the President is the only one who can guide them out of this maze.