Beijing - China's structural reforms will
slow the pace of its debt build-up but will not be enough to
arrest it, and another credit rating cut for the country is
possible down the road unless it gets its ballooning credit in
check, officials at Moody's said.
The comments came two days after Moody's downgraded China's
sovereign ratings by one notch to A1, saying it expects the
financial strength of the world's second-largest economy to
erode in coming years as growth slows and debt continues to
mount.
In announcing the downgrade, Moody's Investors Service also
changed its outlook on China from "negative" to "stable",
suggesting no further ratings changes for some time.
China has strongly criticized the downgrade, asserting it
was based on "inappropriate methodology", exaggerating
difficulties facing the economy and underestimating the
government's reform efforts.
In response, senior Moody's official Marie Diron said on
Friday that the ratings agency has been encouraged by the "vast
reform agenda" undertaken by the Chinese authorities to contain
risks from the rapid rise in debt.
However, while Moody's believes the reforms may slow the
pace at which debt is rising, they will not be enough to arrest
the trend and levels will not drop dramatically, Diron said.
Diron said China's economic recovery since late last year
was mainly thanks to policy stimulus, and expects Beijing will
continue to rely on pump-priming to meet its official economic
growth targets, adding to the debt overhang.
Moody's also is waiting to see how some of the announced
measures, such as reining in local government finances, are
actually implemented, Diron, associate managing director of
Moody's Sovereign Risk Group, told reporters in a webcast.
China may no longer get an A1 rating if there are signs that
debt is growing at a pace that exceeds Moody's expectations, Li
Xiujun, vice president of credit strategy and standards at the
ratings agency, said in the same webcast.
"If in the future China's structural reforms can prevent its
leverage from rising more effectively without increasing risks
in the banking and shadow banking sector, then it will have a
positive impact on China's rating," Li said.
Read also: Moody's downgrades China
But Li added: "If there are signs that China's debt will
keep rising and the rate of growth is beyond our expectations,
leading to serious capital misallocation, then it will continue
to weigh on economic growth in the medium term and impact the
sovereign rating negatively."
"China may no longer suit the requirement of A1 rating."
Li did not give a specific target for debt levels nor a
timeframe for further assessments.
Moody's expects China's growth to slow to around 5 percent
in coming years, from 6.7 percent last year, compounding the
difficulty of reducing debt. But Diron said the economy will
remain robust, and the likelihood of a hard landing is slim.
Stimulus spree
Government-led stimulus has been a major driver of China's
economic growth over recent years, but has also been accompanied
by runaway credit growth that has created a mountain of debt -
now at nearly 300 percent of gross domestic product (GDP).
Some analysts are more worried about the speed at which the
debt has accumulated than its absolute level, noting much of the
debt and the banking system is controlled by the central
government.
UBS estimates that government debt, including explicit and
quasi-government debt, rose to 68 percent of GDP in 2016 from 62
percent in 2015, while corporate debt climbed to 164 percent of
GDP in 2016 from 153 percent the previous year.
A growing number of economists believe that a massive bank
bailout may be inevitable in China as bad loans mount. Last
September, the Bank for International Settlements (BIS) warned
that excessive credit growth in China signalled an increasing
risk of a banking crisis within three years.
Making progress?
The Moody's downgrade was seen as largely symbolic because
China has relatively little foreign debt and local markets are
influenced more by domestic factors, with many companies
enjoying stronger credit ratings from home-grown agencies than
they would in the West.
Still, the rating demotion highlighted investor worries over
whether China has the will and ability to contain rising risks
stemming from years of credit-fuelled stimulus, without
triggering financial shocks or dampening economic growth.
China has vowed to lower debt levels by rolling out measures
such as debt-to-equity swaps, reforming state-owned enterprises
(SOEs) and reducing excess industrial capacity.
In recent months, regulators have issued a flurry of
measures to clamp down on the shadow banking sector while the
central bank has gingerly raised short-term interest rates.
But moves so far have been cautious, especially heading into
a key political leadership reshuffle later this year.
The autumn's Communist Party Congress is President Xi
Jinping's most important event of the year, where a new
generation of up and coming leaders will be ushered into the
Standing Committee, China’s elite ruling inner core.
But party congresses are always tricky affairs, as different
power bases compete for influence, so the government will be
keen to ensure there are no distractions like financial or
economic problems or diplomatic confrontations.