By Judith Ugwumadu | 10 October 2014

Fitch Ratings has welcomed plans by the Chinese administration to cap local government borrowing, saying it would help the country manage its debt better.

Last week, China’s central government decided to place caps on local and regional council's debt, and ban additional borrowing through local government financing vehicles (LGFV). China’s local government debt is around 30% of gross domestic product.

In a briefing note, Fitch said the reforms would help the government to ‘more effectively manage’ this debt, as its shifts financing away from off-balance sheet vehicles to directly issued local government bonds.

It stated that this move would complement earlier reforms to better regulate LRG budget management by bringing revenues more in line with expenditures.

‘The new rules, especially those relating to LGFVs, will significantly improve Chinese LRG budget and debt transparency,’ the note said.

‘Replacing LGFV debt with directly issued local government bonds, which are more strictly regulated and monitored, should lower LRG’s financing costs.’

Fitch added that the government was also holding local councils increasingly responsible for their financial decisions which should improve debt management over the medium term.

It said financial institutions, too, would be subject to stricter regulations and lenders providing financing against central government regulations would have to assume any associated losses.

The changes would allow for better monitoring and supervision by centralising debt-raising powers at the provincial level, the note stated. Provinces will be allowed to issue bonds directly, while lower-level cities and towns can only borrow through upper-tier governments.

These changes should not have a direct impact on China’s sovereign creditworthiness, Fitch said, as it believes its measure of general government debt already broadly captures the LGFV liabilities as government debt.