China to see more systemic financial risk in the 2020s

Subject

China corporate bond defaults.

Significance

The deleveraging campaign that the Chinese authorities have conducted since 2016 has left many more companies struggling to refinance their debt as the economy slows. Tougher financing conditions are affecting more industries, not just those with excess capacity. In the decade to 2014, the state implicitly guaranteed that it would bail out firms in danger of defaulting on their debts. However, the rise in defaults among private, state and local government firms since 2014 suggests that even state-owned firms can no longer rely on such a guarantee.

Impacts

• Further easing measures are likely as the People’s Bank of China (PBoC) wishes to minimise systemic risk.
• An expanding pool of delinquent debt, along with investors’ searching for high yields, is fuelling China's junk bond market.
• Foreign investors will continue to allocate more funds to China’s corporate bonds but will be increasingly mindful of rising credit risks.
• Regulatory change will aid Chinese firms’ scope to restructure debt or recover from default, boosting the corporate debt market.
• The PBoC has said that it will tolerate a "small" rise in bad loans, but coronavirus disruption could test its definition of small.