"History, real solemn history, I cannot be interested in.... I read it a little as a duty; but it tells me nothing that does not either vex or weary me. The quarrels of popes and kings, with wars and pestilences in every page; the men all so good for nothing, and hardly any women at all - it is very tiresome." Jane Austen spoken by Catherine Morland in 'Northanger Abbey'
Bear in a China Shop
Bloomberg News is reporting today that "Chinese real estate developer with 3.5 billion yuan (US$566.6 million) of debt has collapsed and its largest shareholder was detained. Zhejiang Xingrun Real Estate Co. doesn’t have enough cash to repay creditors that include more than 15 banks, with China Construction Bank holding more than 1 billion yuan of its debt. The real estate company’s majority shareholder and his son, its legal representative, have been detained and face charges of illegal fundraising, the officials said."
The lower panel of the chart mashup above shows the maturity structure of corporate bonds issued to LGFVs (Local Chinese Government Financing Vehicles)
Debt servicing is another potential source of vulnerability. LGFVs will need some combination of cash or financing to repay maturing debt. If refinancing, LGFVs could, depending on market conditions, have to pay higher interest rates. Over 50 percent of subnational government debt was expected to mature by the end of 2012 based on NAO 2011 (China’s National Audit Office). However, most infrastructure projects were not expected to generate significant cash flow for 10 years or even longer. Land sales, operating profits (such as highway fees), local fiscal revenues, or inter-governmental transfers could help repay part of the maturing debt. However, it is likely that a majority of the maturing debt was either rolled over or repaid by new borrowing. The recent update from NAO (2013) confirms that much of this debt was serviced with new borrowing (gross issuance was much higher than the increase in the stock of debt). Specifically, gross debt issuance was equivalent to more than 50 percent of 2010 local government debt stock in the past two years, but the net debt stock increased only by 13 percent. According to NAO (2013), about 40 percent of 2010 debt stock was either repaid or reclassified as private debt. It is not clear how much LGFV borrowing contributed to debt repayment, but given tightened credit restrictions on new LGFV loans in 2011–12, a fairly big share of LGFV borrowing likely went to servicing maturing debt.
Back in April 2013, The Financial Times reported:
A senior Chinese auditor has warned that local government debt is “out of control” and could spark a bigger financial crisis than the US housing market crash. Zhang Ke said his accounting firm, ShineWing, had all but stopped signing off on bond sales by local governments as a result “We audited some local government bond issues and found them very dangerous, so we pulled out,” said Mr Zhang, who is also vice-chairman of China’s accounting association. “Most don’t have strong debt servicing abilities. Things could become very serious.”
The International Monetary Fund, rating agencies and investment banks have all raised concerns about Chinese government debt. But it is rare for a figure as established in the Chinese financial industry as Mr Zhang to issue such a stark warning. “It is already out of control,” Mr Zhang said. “A crisis is possible. But since the debt is being rolled over and is long-term, the timing of its explosion is uncertain.”
Mr Zhang said many local governments had invested in projects from public squares to road repairs that were generating lacklustre returns, and so were relying on financing rollovers to pay back their creditors. “The only thing you can do is issue new debt to repay the old,” he said. “But there will be some day down the line when this can’t go on.”
A Ponzi Scheme is a fraudulent investment operation where the operator, an individual or organization, pays returns to its investors from new capital paid to the operators by new investors, rather than from profit earned by the operator. (Wikipedia)
History, Charts & Curated Readings
"Progress, far from consisting in change, depends on retentiveness. When change is absolute there remains no being to improve and no direction is set for possible improvement; and when experience is not retained, as among savages, infancy is perpetual. Those who cannot remember the past are condemned to repeat it." George Santayana Vol. I, Reason in Common Sense