China’s Debt Problem is Evolving

Short thoughts on China’s debt.

 

1.) Recently, a lot of attention has been given to the financial health of SMEs (small and medium enterprises). These smaller companies have historically had access to less financial support, and Beijing has been explicitly concerned about lack of cheap credit available since the crackdown on shadow banking.

This is why Reuters publishes articles like this.

China’s central bank said on Monday that more loans have been extended to small firms in the first five months of 2019, heeding Beijing’s call to support the economy.

The number of outstanding loans to small and micro enterprises rose to 10.3 trillion yuan ($1.50 trillion) at the end of May, up by 21% year on year…

Truthfully however, access to finance isn’t the problem, local government debt is.

Later payments

State firms under pressure to deleverage are finding cash by paying private companies later. The crackdown on shadow banking limited government access to credit, hindering government ability to pay the private sector.

2.) The Chinese government knows the extent of the debt burden. Premier Li Keqiang recently said, “抓紧解决政府部门和国有企业拖欠民营企业账款问题” (link) or “[Government must] grasp and resolve the problem of arrears owed by government and state firms to private enterprise.”

3.) China’s economic model is not sustainable. I highly recommend Macro Polo’s Debt Hangover Map to see Chinese LGFV return on asset.

LGFV debt map

While China is attempting to deleverage, I am not sure how government’s can continue to finance large infrastructure projects. I, fundamentally, dont see any indication that capital allocation mechanisms have become more efficient or changed in any meaningful way.

4.) I am pessimistic about China’s debt servicing capability in the long term, but in the short to medium term, China can do a lot to kick the can down the road. Not paying private companies and hindering SME cash-flow is just the latest in China’s debt evolution.

 

Blue sky today.

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