In addition to increased capital inflows, the Chinese bond market is facing another structural change. According to Asia Pacific Chief Economist at BNP Paribas, while China’s economic growth has recovered somewhat, corporate debt servicing pressures have intensified and bond default rates are rising rapidly from an otherwise low level. This trend breaks with past perceptions in two ways. First, state-owned enterprises have become the main source of bond defaults. Second, since 2019, some higher-rated SOEs have experienced repayment difficulties.
The health of enterprises and provincial finances directly affects bond defaults. While the size and ratio of onshore bonds with repayment pressure have climbed, the number of first-time defaulters has fallen from 42 in 2019 to 27 in 2020, according to Isiah. In addition, the five largest defaulters in 2020 account for 54% of overall onshore bond defaults. This suggests that repayment pressure is being driven by a small number of large companies, and not a few of them are state-owned.
The question is whether there is a rational reason behind this trend, and the answer is yes. Indeed, the financial health of SOEs has deteriorated rapidly. the deterioration in relations between the two countries was clearly exacerbated by the impact of the US-China trade war in 2019 and the epidemic in the first half of 2020, and while SOEs are still in better financial shape than private companies, the decline has been steeper.
However, the biggest difference between SOEs and private enterprises is still government support. in 2019 and 2020, Hainan, Liaoning and Qinghai have the greatest difficulties in repaying SOEs for a number of reasons. In terms of liquidity, Qinghai and Liaoning saw the largest declines in total social financing and shadow banking, indicating the intertwined pressures of declining bank risk appetite and increased difficulty in accessing credit. Hainan had the highest percentage of non-repayable loans, but firms had much less liquidity concerns and were able to manage to obtain extensions, suggesting that government support was critical.
However, the financial position of local governments has deteriorated over the past few years, largely due to local government financing platforms. The impact of the epidemic has exacerbated the challenges of local government debt. The bank found that provinces under greater repayment pressure had higher average debt ratios and more severe fiscal deficits. In other words, local government debt and fiscal deficits appear to be rising in tandem with bond defaults.
Bond defaults are likely to remain an issue in 2021, but will likely be concentrated in specific companies or sectors. The good news for local governments is that the cyclical rebound in economic growth will somewhat ease the pressure on supporting firms, but the heavier debt burden on local governments will remain a concern as a structural slowdown in the Chinese economy is expected after a technical rebound in 2021.
As a result, local government support for SOEs may become less certain over time, especially in areas with higher debt ratios and fiscal deficits. Gone may be the implied guarantees of the past, and a careful selection of the best companies will become the new normal.
Recent Comments