No, China Doesn’t Really Have a Debt Crisis

China is sitting on a lot of debt after a multi-decade infrastructure boom. Public borrowings1 hover at around 120% of gross domestic product, while a broad measure of the fiscal deficit exceeds 10%. These statistics, coupled with a slowing economy, have ignited anxiety in Beijing over whether a debt crisis is looming. Any large-scale stimulus will only lead to more buildups and ultimately threaten financial security, the thinking goes.

As a result, Beijing has been gun-shy even while recognizing in late September that more fiscal spending is needed to meet its growth target. Since then, only a 10 trillion yuan ($1.4 trillion) local debt swap program has been announced. Regional governments will be able to save some money on interest payments, which in turn allows them to settle overdue bills to suppliers and unpaid salaries to civil servants. But this initiative offers no new borrowings and therefore should not be counted as fiscal stimulus.

Indeed, economists have stepped back their stimulus expectations. For next year, Goldman Sachs Group Inc. sees China’s total fiscal deficit, including off-balance-sheet municipal borrowings, widening by only 1.8 percentage points to 13%. Net bond issuance from local government financing vehicles will likely continue to shrink, as Beijing reins in hidden municipal debt.

But worrying over deleveraging now is bad fiscal management. In a recession, households save for a rainy day, which means the public sector must spend to avoid a deflationary spiral. China is doing the very opposite.

The central government has limited infrastructure spending in 12 provinces that it deems as high risk and prone to defaults, as a quick and easy fix to slow their debt increases. However, this measure alone can drag an entire region into a deep recession while local officials are still figuring out ways to diversify their economy.

In southwestern Yunnan province, over 30% of GDP was propped up by infrastructure investment in 2023, which fell 11.4% last year and 9% in the first half this year, according to Moody’s Investors Service. New to high-end manufacturing, which Beijing is keen to cultivate and willing to fund, Yunnan hasn’t found another growth engine. As a result, its economy grew only 3.5% in the first half, well below the national average. The central government’s austerity measure is counterproductive and only worsening the province’s ability to service debt.

It’s also ludicrous to judge whether a debt crisis is looming based purely on simple accounting metrics such as debt-to-GDP ratios, which reflect what happened in the past. Instead, Beijing should think about what to do with the asset side of its balance sheet in the future.

Unlike Western nations that borrowed to fund recurrent government expenditures — think of the Greek pension system in the 2000s — the Chinese government has a different calculus. It levered up to build infrastructure and big corporations. As a result, Beijing owns a lot of stuff, from toll roads to hospitals to banks. Its net book equity might be as high as 170 trillion yuan, or about 140% of GDP, according to Gavekal Dragonomics. Now whether the book value of these assets can be realized is debatable, but a deflationary environment is definitely not good for asset sales.

This time, the interests of private enterprises and the state are well-aligned. Deflation is hard on businesses and the indebted. Both debt servicing and asset disposals become difficult. Tax revenue is falling, but municipalities have the same nominal amount to repay. So why is Beijing still hesitating?

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