Beijing’s Great Hall of the People. (Niu/Getty Images)
As this post goes up on the Forbes website, the Chinese Communist Party (CCP) is convening its long-delayed 3rdPlenum session. These meetings are meant to develop a five-year plan. At this stage in the process, it is impossible to know what policies and objectives will come out of the meetings. Rumors have it that nothing new will emerge for the property crisis. Beijing seems to think that its latest plan to buy up unoccupied units will do the trick. Because there is room for skepticism about the adequacies of this plan, additional efforts on the property matter would be welcome. Perhaps even more than China’s real estate mess, the thinkers at the 3rd Plenum need to deal with the huge overhang of local government debt. Anything less than an effective remedy on this score will hold back Chinese growth even in the unlikely event that the property crisis lifts.
The immediate problem centers in what are called local government financing vehicles (LGFVs). Promoted for years by the planners in Beijing, LGFVs allow local governments to borrow huge amounts to finance Beijing’s infrastructure projects, and because the debt is held in the LGFV instead of on the local government’s balance sheet, the process can avoid statutory and customary debt limits and, in many respects, even public scrutiny. Because the government connection of the LGFVs also made lenders much less careful than they otherwise might have been, this off-the-books so-called “shadow debt” has over the years grown to huge proportions, in the range at last count of the equivalent of $7 to $11 trillion, twice the size of the debt of China’s central government in Beijing.
In many respects, these LGFV stood behind the huge Chinese infrastructure projects that so awed western observers over the years—the massive apartment complexes, dazzling provincial city centers, broad highways, bridges, rail links, ports, subways, light rail systems, and the like. The spending and employment involved in these projects boosted China’s growth figures and made the nation—and the party’s leadership—look good. And especially early on, the progress was real. But over time, the returns from each new project had less and less ability to support the debt incurred to complete it. This unsupportable debt now threatens to unravel a big part of China’s former advance.
The culprit behind all this trouble surely is the centralized planning on which the CCP relies and which has directed local government borrowing and spending. Because the projects came out of government decision making, they tended to reflect political rather than economic priorities. Early on, this distinction mattered little. China’s underdeveloped state made needs obvious. But over time, the political preferences of Beijing have had less to do with economic needs than was wise and consequently paid less than adequate returns. Estimates that the equivalent of some $800 billion in LGFV debt will never be repaid are in large part why the credit-rating agencies, Fitch and Moody’s downgraded China’s financial prospects. Local governments are staggering under the weight of these unmanageable obligations. Some are having difficulty providing their populations with essential services. Meanwhile, Beijing has lost a major source of growth.
If this 3rd Plenum does its duty to China’s economy, it will need to find a way to remedy this problem. Left unattended, the LGFV problem has the potential to do more harm even than the headline-grabbing property crisis. Something likely will emerge from the meetings. Certainly, the rumors suggest so. Likelihoods, however, also suggest that whatever comes out of the meetings will be inadequate to the task. At least that is the message of the halting and tentative manner with which Beijing has moved to address the property crisis. Even if the planners prove themselves capable of direct and forceful action on this front, it will take years to straighten out these matters, years in which China will have no way to recapture the pace of growth it once enjoyed and that is essential to Beijing’s ambitions.