The widening fiscal deficit will restrict further stimulus efforts
Summary
China’s economic growth in the near term will depend on further investment in infrastructure, which has been the main driver in the past. The switch to consumption will take time. Our analysis suggests there are inadequate fiscal resources to continue to generate significant growth through investment expenditure. Local governments are spending above their official revenue and are clearly relying on non-tax revenue, either from one-off sales of assets (such as land) or additional debt.
As a result of these economic trends, by the end of 2018 local governments will have to pay more than Rmb500bn of interest on debt. Between 2019 and 2023, they will need to repay debt of approximately Rmb25.8trn, one-third of which consists of interest expense. Much of the capital raised by local companies (LGFVs) from bond sales will be required for interest expense. Attempts to raise private capital will be difficult due to the lack of reasonable returns from infrastructure projects. For these reasons, stimulus measures are unlikely to be effective in generating growth through the traditional Chinese infrastructure-driven model.
Can private capital provide the stimulus?
The answer is no. Although private fixed-asset investment has maintained 8.7% YoY growth, the primary industry has been the fastest growing sector with double-digit growth, compared to the low to mid-single digit increase within the secondary industry. “Because of the low profitability of infrastructure projects, most private capital has stopped investing due to the large capex requirement at the initial stages. Now is a special period for China given tightened liquidity, weak investment sentiment, and little confidence in the government,” said the chairman of a medium-sized private company in Shanxi. “Unless we can refinance the infrastructure projects we have invested in, no one wants to provide capital to government.” Unfortunately, it is unlikely that private capital will be able to access “easy money” in the future due to current credit constraints.