China’s Financial Woes Grow as Moody’s Lowers Credit Outlook

The writing is on the Great Wall when it comes to Chinese debt.

Moody’s Investors Service cut its outlook for China’s credit rating to negative from stable on Tuesday, in response to crushing debt across the Middle Kingdom’s local governments.

Hitting a Great Wall

China’s economic and fiscal woes are no secret: The country was late to reopen after covid, youth unemployment hit a record high, Western firms have cut investments, stocks are plummeting, the property sector is crumbling, and rates of consumer defaults are quickly accelerating. The Financial Times reported that the number of people blacklisted for missing payments on everything from mortgages to business loans has risen to a record 8.5 million from 5.7 million in early 2020.

All of that may have been a little bit more manageable if cities and provinces themselves weren’t also feeling financial strain.

China’s local governments have as much as $11 trillion in off-balance-sheet debt, The Wall Street Journal reported, as municipalities issued thousands of corporate bonds that borrowed money to finance roads, bridges, and other infrastructure. Now, economists say anywhere from $400 billion to $800 billion of the hidden debt is at risk of default, which could require the national government to step in and provide financial support and even bailouts. That scenario is exactly what could cause China’s credit rating to eventually be downgraded:

• Moody’s maintained China’s A1 long-term rating on the country’s sovereign bonds, four levels below a top-tier Aaa rating. The agency last cut China’s credit rating in 2017.
• Ratings agencies S&P and Fitch have given China an A+ rating, and both consider the country’s rating outlook to be stable. Similar to Moody’s, earlier this summer, Fitch’s James McCormack told Bloomberg that if China extends its balance sheet to support the economy, then “we might think again” about changing the score.

Cross the T’s and Dot the I’s: When developer Evergrande defaulted under $300 billion in 2021, much of the blame was put on new policies from Beijing that looked to limit how much developers could borrow. However, The New York Times reported that another factor probably contributed to the downfall: shoddy accounting.

In many cases, Evergrande would record money it received for apartments as revenue even if it hadn’t actually built them yet. Evergrande and many other developers also had the tendency to over-borrow and over-build. Now, China is littered with dozens of ghost cities and millions of empty apartments. When a country of 1.4 billion has too many places to live, somebody messed up the math.