(Bloomberg) — China’s local government financing vehicles must repay a record amount of maturing local bonds this year, testing the limits of a central government program aimed at helping them refinance their debt and avoid a failure to pay.
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The country’s LGFVs – companies that borrow on behalf of provinces and cities to mainly finance infrastructure projects, such as roads and ports – have bonds worth 4.65 trillion yuan (651 billion) maturing over the next 12 months, according to data compiled by Bloomberg. . This is the highest amount ever recorded, and is about 13% more than what was owed last year.
“Containing credit contagion and systemic financial risk of the LGFV sector remain the central government’s top priorities this year,” said Zerlina Zeng, senior credit analyst at Creditsights Inc.
Beijing has taken some steps to ease China’s long-standing local debt problem, bringing optimism to investors looking for signs that any financial risks from accumulating such debt are controlled. Last year, authorities introduced a program worth at least 1 trillion yuan allowing local governments to exchange part of the LGFV debt for official bonds with lower interest rates, Bloomberg News reported in August.
Although this plan covers a tiny fraction of the approximately $9 trillion in debt these companies are expected to hold, the country has seen an increase in prepayments of debt following the rollout of this measure.
Beijing’s measures appear to have helped ease traders’ nerves, at least temporarily. The spread on low-rated Chinese LGFV bonds narrowed to a record in November, just months after the swap program began.
The prospect of more confident investors is encouraging for the stability of the local debt market, given that LGFVs rely heavily on refinancing bonds to repay their upcoming debts.
The market appears to “firmly believe” that the central government does not want a public default on LGFVs, said Gary Ng, senior economist at Natixis SA. He said the refinancing program means most of these companies should be able to access “reasonable liquidity” in 2024 and refinance their debt.
LGFVs have spent years accumulating off-balance sheet debt by financing massive recovery programs dependent on infrastructure investments – a growth model that has become unsustainable as local government finances have deteriorated. This has made investors nervous about the extent to which authorities can guarantee LGFV’s debt.
According to data compiled by Bloomberg, net financing fell last year to about 1.49 trillion yuan ($208.9 billion), the lowest amount since 2019. This amount does not include some figures, like financing LGFVs created after 2022, but it is still estimated to represent the lion’s share of the money.
Provinces can continue to tap unused local bond quotas from previous years to help alleviate debt held by LGFVs. About 1.4 trillion yuan of those bonds were sold through the end of December, state-run Securities Times reported. That means regional authorities have about 1.2 trillion yuan of quota available, before Beijing unveils an additional quota for the year in March.
Investor sentiment toward LGFV debt ultimately depends on the ability of local governments to bail out these companies in times of crisis. But the finances of these local authorities are unlikely to recover any time soon. The country’s deep real estate crisis is hurting their ability to earn income from selling their land, and the slowdown in the broader economy has affected their tax revenues.
“There will be pressure on liquidity due to slowing economic growth,” Ng said, adding that a small number of LGFVs in riskier provinces may still have problems this year with their debts falling due.
–With help from Fran Wang.
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