Increasing debt levels in China
China’s (FXI) increasing debt, compared to its GDP growth, is a concern for global economies (ACWI) (VXUS). Any slowdown in China’s economic growth is expected to impact developed (SPY) (EWU) (HEDJ) and emerging economies (FXI) (EEM). Currently, the total debt-to-GDP ratio stands at nearly 300% of the GDP. It’s concerning if economic growth doesn’t support rising debt. Recently, China’s authorities took several steps to reduce rising credit levels.
In the following chart, let’s look at the rising debt level in China’s private sector in the last few years.
Private sector debt-to-GDP
Corporates and local governments across China borrowed substantially in the last few years to fund an improvement in public infrastructure and other capital investments. Local indebtedness has risen significantly since the global financial crisis in 2008. Indebtedness reached 40% of the GDP as of 2014, according to an IMF report. Loans to the private sector, which is referred to as “social financing,” increased over the years. Currently, the loans stand at ~208% of the GDP. The above chart shows China’s rising debt burden. As a result, China (FXI) (CNXT) is carrying massive debt to revive its economy. China is also highly dependent on external debt, which resulted in a sharp increase in external borrowing.
The real estate and construction sector contributed to the overall increase in credit levels along with the mining and utility sector. These sectors tend to have high leverage considering their business dynamics. With China rebalancing its economic structure, it’s increasingly dependent on domestic demand. China will likely need more credit for its growth. Any slowdown in credit growth is expected to impact economic activity in the current situation.
China’s efforts to reduce credit seem to have impacted its stock market performance over the last few months. Bond yields have also been rising in recent months. So far, the Shanghai Composite has fallen ~2% in 2Q17 as of May 17, 2017. The ten-year bond yield rose by about 300 basis points in 2Q17 to 3.7% as of May 17, 2017. The Deutsche X-trackers Harvest CSI 300 China A-Shares ETF (ASHR) also had a subdued performance with losses of ~1% during the same period.
In the next part, we’ll look at how rising credit levels impact the real estate sector.