(July 6): China’s debt will likely hit a record this year as the central bank tries to boost credit and shore up the struggling economy, according to a government-backed think tank.
The overall leverage ratio — total debt as a percentage of gross domestic product — is projected to increase by 11.3 percentage points to around 275% this year, according to Zhang Xiaojing, director of the National Institution for Finance and Development. He attributed the rise mostly to the slowdown in economic growth.
A temporary uptick in the ratio “won’t bring too much risk,” Zhang said in an interview. “The central bank’s stance is that the balance sheet still has to expand, and the economy needs to leverage up,” he said.
Zhang is also the director of the Institute of Finance and Banking at the Chinese Academy of Social Sciences, and advises the central bank and other government agencies.
China has been trying to rein in the leverage ratio since 2017 after prior stimulus fueled debt and increased financial risk in the economy. The government halted that campaign temporarily in 2020 when it ramped up stimulus as the coronavirus pandemic hit. The debt ratio climbed by 23.6 percentage points that year, according to estimates from NIFD.
This year has seen a return of Covid outbreaks and lockdowns, with Beijing announcing additional stimulus to boost growth. Alongside a persistent property slump, and the government’s commitment to its Covid Zero approach, economists say the official annual growth target of about 5.5% is in jeopardy.
With limited options for economic support — tighter monetary policy overseas is also a constraint — the People’s Bank of China has signaled its stimulus would likely focus on boosting credit rather than lowering interest rates. It recently underscored that shift by removing from its quarterly report a long-standing pledge to keep the debt ratio “basically stable.”
Consumers have been reluctant to take on more debt given the uncertain economic outlook. Household mid- and long-term debt, a proxy for mortgages, shrank in two of the first five months of 2022, an unprecedented decline. That’s ignited a debate over the risk of China slumping into a “balance sheet recession” akin to what some argue happened in Japan in the 1990s. That country’s residents and companies tried to reduce debt by cutting spending and investing, but that only exacerbated the economic slump.
However, Zhang remains optimistic about China’s credit growth outlook this year as mortgages are unlikely to keep shrinking. He forecast household leverage will rise by two-to-three percentage points.
“There’s very little possibility of a decline in household leverage,” he added.
Government aid for the housing market, including the lowering of mortgage rates, will help stabilize mortgages, Zhang said. He added that the debt structure within the residential sector will likely be healthier as household operating loans grow. Household leverage has remained steady at around 62% since late 2020 after surging from around 40% in 2016, according to NIFD data.
The government could also leverage up by issuing special sovereign bonds, which could help boost the economy, Zhang said.