HONG KONG, 29 June 2020. Pengyuan International has today published a research report, “Seeing Through Frosted Glass: Assessing Chinese Local Governments’ Creditworthiness”.
The report is aimed at giving a profound insight in the creditworthiness of different level local governments (LG) in China by introducing the governing structure of the country, demonstrating the fiscal and debt features of the LGs, and delivering some valuable information of the credit statues of the LGs. The key takeaways from this report are as follows:
We believe it is necessary to employ a top-down rating approach to assess Chinese local governments’ credit profiles as we believe it better reflects with the nation’s vertically integrated governing structure.
In our opinion, the higher the level of an LG, the more power it possesses to shape intra-governmental relations, mobilise external financial resources and the more state-owned assets and enterprises it may control. Higher-Level LGs (HLG), such as at provincial level, should have better creditworthiness than a municipal level LG and so forth. The political influence of each provincial region has shifted overtime, which can shed light on national strategies. We believe the political influence of the region of Xinjiang, the municipality of Chongqing and the province of Hainan has gradually increased over the past two decades.
LGs’ fiscal revenue growth has been muted in recent years. They have started feeling this deficit and Covid-19 could make things worse.
In our view, the main revenue generators of LGs like the taxes, non-tax fees and land sales proceeds have been curbed by the central government’s proactive fiscal strategy and real estate policies. All the while, expenditures have remained strong so deficits have surged and to counter Covid-19’s impact, we expect LGs will experience even heavier deficits in 2020 than ever before.
LGs’ debts have expanded rapidly with the direct debt growth outpacing hidden debt.
Seeing their fiscal imbalances exacerbated, LGs have resorted to borrowing to prop up their expenses and so the whole debt pile has swollen. Hidden debt is still the bulk of LG’s debts but has been reined in by the central government’s stringent hand. On the other hand, however, direct debt (LG bonds) has surged and the sector has been in the spotlight in the domestic bond market in recent years. LG Bonds accounted for 23% of the total outstanding domestic bonds at the end of May 2020 and this is expected to continue growing in coming years.
Based on our assessment, provincial-level governments’ credit ratings should be no lower than 3 notches below that of the sovereign.
We believe the central government will keep provincial level governments’ creditworthiness in close range to its own but that does not mean provincial-level governments’ creditworthiness will be identical. While some gaps exist among provincial LGs in facets such as local economy, budgetary performance, debt burden and liquidity so far, all provincial LGs have managed to maintain strong credit profiles.
The difference in creditworthiness among prefecture-level city LGs can be huge and the gap is even wider among lower district and county LGs.
Provincial capitals and cities with independent planning (CWIP) boast stronger credit profiles among the prefecture-level cities due to their unique economic and political status. We estimate the prefecture-level LGs in eastern China by and large have better budgetary strength than the LGs in other parts of the country and the LGs in the west have seen greater divergence in their performances relating to revenue and debt.
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Date of Relevant Rating Committee: 22-Jun-2020
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