China Economic Update: June 2017
In May, international ratings agency Moody’s announced a downgrade for China’s sovereign credit rating, citing the country’s rising debt as a key factor in this decision.
Overview:
- While this change generated a lot of headlines, the significance for China’s economy is likely to be minimal, as relatively little of China’s debt is held offshore. That said, the downgrade may inspire a renewed focus on debt management and regulation that would be a long term positive for the economy.
- A sovereign downgrade is typically a major concern for any economy. Investors generally demand a larger return to compensate them for higher perceived risk – leading to higher funding costs that then flow through the economy (with corporates often facing their own downgrades relative to the sovereign). However in China’s case, the impact is reduced by the low level of foreign ownership of government debt. In May, foreign holdings of Chinese government bonds were around 3.9% of the total. China’s domestic bond investors typically pay little attention to international ratings – yields on 10 year government bonds have fallen slightly since the Moody’s downgrade
- One of the key concerns surrounding China’s financial sector has been the rapid growth of shadow banking. Moody’s estimates suggest that the sector was equivalent to 89% of China’s GDP at the end of 2016. Our broad estimate is larger – above 105% of GDP – with this estimate excluding the rapidly growing peer to peer (p2p) sector.
- China’s p2p sector is by far the world’s largest, but is relatively small compared with other components of shadow banking (around 1.1% of GDP). That said, it has been growing rapidly – up 86% yoy in Q4 2016 – despite a number of high profile scandals. Tighter regulation is likely to slow growth in the sector.
- Moody’s downgrade of China’s sovereign credit rating in part reflected the rapid growth of shadow banking over the past decade. While tighter regulation and closer oversight of the sector should assist in managing its risk, further financial reforms (perhaps inspired by the downgrade) that widen conventional financial access of non-state owned enterprises and individuals would be encouraging – filling the gaps that have allowed shadow banking to flourish.
For further details, please see the attached document:
About the Author
Gerard has over a decade of experience as a professional economist, currently specialising in international economic research. He is responsible for monitoring and forecasting trends in emerging Asian economies, with a particular emphasis on China. He is also a member of the bank’s commodities research team, focusing on trends in iron ore and coal markets.
Gerard joined NAB in 2005, and previously focused on risk analysis across a range of industry sectors in Australia and abroad. He had particular expertise in areas such as Mining, Manufacturing, Healthcare and Retail, including the development of research into online retail sales. Prior to joining NAB, he was an economist with the Australian Bureau of Agricultural and Resource Economics, focusing on commodities and energy research.
He holds Bachelors degrees in Economics (with Honours) and Commerce from the Australian National University.
