Finance
China’s local government debt problems are a hidden drag on economic growth
Local governments in China are still building highways, bridges and railways, as pictured here in Jiangxi province on Sept. 6, 2024.
Cfoto | Future Publishing | Getty Images
BEIJING — China’s persistent consumption slowdown traces back to the country’s real estate slump, and its deep ties to local government finances — and debt.
The bulk of Chinese household wealth went into real estate in the last two decades, before Beijing began cracking down on developers’ high reliance on debt in 2020.
Now, the values of those properties are falling, and developers have reduced land purchases. That’s cutting significantly into local government revenue, especially at the district and county level, according to S&P Global Ratings analysts.
They predicted that from June of this year, local government finances will take three to five years to recover to a healthy state.
But “delays in revenue recovery could prolong attempts to stabilize debt, which continues to rise,” Wenyin Huang, director at S&P Global Ratings, said in a statement Friday to CNBC.
“Macroeconomic headwinds continue to hinder the revenue-generating power of China’s local governments, particularly as related to taxes and land sales,” she said.
Huang had previously told CNBC that the financial accounts of local governments have suffered from the drop in land sales revenue for at least two or three years, while tax and fee cuts since 2018 have reduced operating revenue by an average of 10% across the country.
This year, local authorities are trying hard to recoup revenue, giving already strained businesses little reason to hire or increase salaries — and adding to consumers’ uncertainty about future income.
Clawing back tax revenue
As officials dig into historical records for potential missteps by businesses and governments, dozens of companies in China disclosed in stock exchange filings this year that they had received notices from local authorities to pay back taxes tied to operations as far back as 1994.
They stated amounts ranging from 10 million yuan to 500 million yuan ($1.41 million to $70.49 million), covering unpaid consumption taxes, undeclared exported goods, late payment fees and other fees.
Even in the relatively affluent eastern province of Zhejiang, NingBo BoHui Chemical Technology said regional tax authorities in March ordered it to repay 300 million yuan ($42.3 million) in revised consumption taxes, as result of a “recategorization” of the aromatics-derivatives extraction equipment it had produced since July 2023.
Jiangsu, Shandong, Shanghai, and Zhejiang — some of China’s top provinces in tax and non-tax revenue generation — see non-tax revenue growth exceeding 15% year-on-year growth in the first half of 2024, S&P’s Huang said. “This reflects the government’s efforts to diversify its revenue streams, particularly as its other major sources of income face increasing challenges.”
The development has caused an uproar online and damaged already fragile business confidence. Since June 2023, the CKGSB Business Conditions Index, a monthly survey of Chinese businesses, has hovered around the 50 level that indicates contraction or expansion. The index fell to 48.6 in August.
Retail sales have only modestly picked up from their slowest levels since the Covid-19 pandemic.
The pressure to recoup taxes from years ago “really shows how desperate they are to find new sources of revenue,” Camille Boullenois, an associate director at Rhodium Group, told CNBC.
China’s national taxation administration in June acknowledged some local governments had issued such notices but said they were routine measures “in line with law and regulations.”
The administration denied allegations of “nationwide, industrywide, targeted tax inspections,” and said there is no plan to “retrospectively investigate” unpaid taxes. That’s according to CNBC’s translation of Chinese text on the administration’s website.
“Revenue is the key issue that should be improved,” Laura Li, sector lead for S&P Global Ratings’ China infrastructure team, told CNBC earlier this year.
“A lot of government spending is a lot of so-called needed spending,” such as education and civil servant salaries, she said. “They cannot cut down [on it] unlike the expenditure for land development.”
Debate on how to spur growth
A straightforward way to boost revenue is with growth. But as Chinese authorities prioritize efforts to reduce debt levels, it’s been tough to shift policy away from a years-long focus on investment, to growth driven by consumption, analyst reports show.
“What is overlooked is the fact that investment is creating weak nominal GDP growth outcomes —pressuring the corporate sector to reduce its wage bill and leading to a sharp rise in debt ratios,” Morgan Stanley chief Asia economists Chetan Ahya and Robin Xing said in a September report, alongside a team.
“The longer the pivot is delayed, the louder calls will become for easing to prevent a situation where control over inflation and property price expectations is lost,” they said.
The economists pointed out how similar deleveraging efforts from 2012 to 2016 also resulted in a drag on growth, ultimately sending debt-to-GDP ratios higher.
“The same dynamic is playing out in this cycle,” they said. Since 2021, the debt-to-GDP has climbed by almost 30 percentage points to 310% of GDP in the second quarter of 2024 — and is set to climb further to 312% by the end of this year, according to Morgan Stanley.
They added that GDP is expected to rise by 4.5% from a year ago in the third quarter, “moving away” from the official target of around 5% growth.
The ‘grey rhino’ for banks
Major policy changes are tough, especially in China’s rigid state-dominated system.
Underlying the investment-led focus is a complex interconnection of local government-affiliated business entities that have taken on significant levels of debt to fund public infrastructure projects — which often bear limited financial returns.
Known as local government financing vehicles, the sector is a “bigger grey rhino than real estate,” at least for banks, Alicia Garcia-Herrero, chief economist for Asia-Pacific at Natixis, said during a webinar last week. “Grey rhino” is a metaphor for high-likelihood and high-impact risks that are being overlooked.
Natixis’ research showed that Chinese banks are more exposed to local government financial vehicle loans than those of real estate developers and mortgages.
“Nobody knows if there is an effective way that can solve this issue quickly,” S&P’s Li said of the LGFV problems.
“What the government’s trying to do is to buy time to solve the most imminent liquidity challenges so that they can still maintain overall stability of the financial system,” she said. “But at the same time the central and local government[s], they don’t have sufficient resources to solve the problem at once.”
Finance
Buffett denies social media rumors after Trump shares wild claim that investor backs president crashing market
Warren Buffett went on the record Friday to deny social media posts after President Donald Trump shared on Truth Social a fan video that claimed the president is tanking the stock market on purpose with the endorsement of the legendary investor.
Trump on Friday shared an outlandish social media video that defends his recent policy decisions by arguing he is deliberately taking down the market as a strategic play to force lower interest and mortgage rates.
“Trump is crashing the stock market by 20% this month, but he’s doing it on purpose,” alleged the video, which Trump posted on his Truth Social account.
The video’s narrator then falsely states, “And this is why Warren Buffett just said, ‘Trump is making the best economic moves he’s seen in over 50 years.'”
The president shared a link to an X post from the account @AmericaPapaBear, a self-described “Trumper to the end.” The X post itself appears to be a repost of a weeks-old TikTok video from user @wnnsa11. The video has been shared more than 2,000 times on Truth Social and nearly 10,000 times on X.
Buffett, 94, didn’t single out any specific posts, but his conglomerate Berkshire Hathaway outright rejected all comments claimed to be made by him.
“There are reports currently circulating on social media (including Twitter, Facebook and Tik Tok) regarding comments allegedly made by Warren E. Buffett. All such reports are false,” the company said in a statement Friday.
CNBC’s Becky Quick spoke to Buffett Friday about this statement and he said he wanted to knock down misinformation in an age where false rumors can be blasted around instantaneously. Buffett told Quick that he won’t make any commentary related to the markets, the economy or tariffs between now and Berkshire’s annual meeting on May 3.
‘A tax on goods’
While Buffett hasn’t spoken about this week’s imposition of sweeping tariffs from the Trump administration, his view on such things has pretty much always been negative. Just in March, the Berkshire CEO and chairman called tariffs “an act of war, to some degree.”
“Over time, they are a tax on goods. I mean, the tooth fairy doesn’t pay ’em!” Buffett said in the news interview with a laugh. “And then what? You always have to ask that question in economics. You always say, ‘And then what?'”
During Trump’s first term, Buffett opined at length in 2018 and 2019 about the trade conflicts that erupted, warning that the Republican’s aggressive moves could cause negative consequences globally.
“If we actually have a trade war, it will be bad for the whole world … everything intersects in the world,” Buffett said in a CNBC interview in 2019. “A world that adjusts to something very close to free trade … more people will live better than in a world with significant tariffs and shifting tariffs over time.”
Buffett has been in a defensive mode over the past year as he rapidly dumped stocks and raised a record amount of cash exceeding $300 billion. His conglomerate has a big U.S. focus and has large businesses in insurance, railroads, manufacturing, energy and retail.
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