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China’s Growing Debt

Posted by Steve Markowitz on March 31, 2015

This Blog has often referred to the real and potential problems associated with the growing debt in the United States and Western Europe.  However, the unsustainable growth of debt is a worldwide phenomenon that includes the fastest-growing major economy, China.

The Wall Street Journal reported on China’s growing debt.  According to the International Monetary Fund, China’s debt is growing quicker than that of Japan, who has a debt to GDP ratio of over 200%.  It is also growing faster than the debt of the United States and South Korea.

A significant portion of China’s debt is being created by local governments who borrow to finance projects in their areas.  The Journal reports that these local governments have accounted for 25% of China’s total debt since 2008 and in 2013 reached 36% of GDP, double the rate of five years earlier.  At this rate it is estimated that local borrowing will increase to 52% of GDP by 2019.

Incredibly, there are approximately 8,000 local quasi-government finance organizations throughout China.  This huge number and the large amount of debt lend themselves towards corruption and inefficient usage of the debt.  Also, since these finance organizations are related to the government, they are able to sell bonds with high risk at subsidize rates as lenders incorrectly believe that default is not possible.

This lose money policy in China lends itself to financing ventures that do not make economic sense, thereby increasing the likelihood of defaults.  This is eerily reminiscent of the lose money policies of the West and the United States in particular that led to the economic meltdown of 2008.  It is likely that China’s flawed financing practices will lead to similar results in that country.  Given the size of the Chinese economy, that will lead to contagion in economies worldwide.

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