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Rural China

Local governments in China have taken on large amounts of debt this year; with 36% more municipal bonds issued between January and September than during the same period in 2019 – largely to support lower-level governments against the impact of Covid-19 and finance infrastructure projects that drive economic growth.

“Fitch believes local and regional governments’ (LRGs) heightened debt burden is the key risk to our stable sector outlook,” the agency said in an outlook report.

“Provincial-level LRGs, which are responsible for muni-bonds issuance, are likely to bear the burden of the increased municipal debt.”

However, Fitch said it expects tax yields will gradually return to normal, alleviating the impact of the debt, and gave a ‘stable’ rating for 99% of LRGs and 97% of government-related entities in its portfolio.

Since 2015 the central government has clamped down on riskier types of financing used by local governments.

During the pandemic, local authorities have been asked to raise money through municipal bonds, rather than taking on off-budget debt through ‘local government financing vehicles’, which many bodies have previously used to bypass fundraising restrictions.

The agency believes tightening control over municipal bond issuance “should serve as a mitigating factor” against its outlook deteriorating, but said for some LGFVs this would prove costly.

“Rising debt at the government-related entities and a recovering economy set the foundation for the authorities to re-emphasise their tight policy, which is likely to weigh on weak LGFVs and reinforce the divergence with stronger ones,” Fitch said.

Nearly 40 (about 70% of the total) of these LGFVs had difficulty meeting their debt obligations in 2018 and 2019, and they have been a source of concern for ratings agencies in recent years.

Fitch said the stable rating for 97% of government-related entities relies on their implicit backing by the government.