Tag Archives: local government

Coronavirus Blame Game Begins

There is a rule of thumb, perhaps universal, that central government gets to claim all successes, but local officials take the fall for failure.

Hundreds of local officials have reportedly done the latter over the response to the Wuhan coronavirus outbreak (via BBC). This number includes Zhang Jin, party secretary for the Hubei Health Commission, and Liu Yingzi, head of the commission, according to state media. These are the two most senior officials to date to be removed from post.

Wang Hesheng, deputy head of the National Health Commission, will assume both roles. Wang was appointed to the provincial standing committee last week.

The deputy director of the local Red Cross organisation was also removed over the ‘handling of donations’ amid a warning to charities by Guo Linmao, an official with the Legislative Affairs Commission of the NPC Standing Committee, over any irregularities or lack of transparency.

Separately, the National Supervisory Commission, the top anti-corruption agency, is investigating Wuhan police reprimands of the late Dr Li Wenliang after he became one of the first doctors who tried to share information about the coronavirus.

Social media has of late been allowed to be uncommonly critical of the Wuhan municipal and Hubei provincial authorities for initially covering up the outbreak, even if any criticism of central government’s response remains censored. 

A statement last month by Zhou Xianwang, mayor of Wuhan, in a TV interview claiming that Beijing was partly responsible for the initial cover-up of the outbreak as local governments need central government authorisation to disclose contagion-related information will, no doubt, be publicly forgotten, if not privately.

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China Struggles To Crimp Cozy Local Business Breaks

THIS BYSTANDER HEARS that there has been considerable resistance to an edict from Beijing late last year instructing local governments to stop offering tax and other incentives to businesses. The proscribed incentives include tax rebates, cheap land, and social security concessions. The aim of the measures, contained in a document from the State Council known as Circular 62, is to standardize local tax and fiscal regimes, knock back local protectionism and generate fairer market competition.

Any incentives not in line with national priorities were to be stopped immediately, and those that local officials felt were had to be submitted to finance ministry review by end-March. However, many local officials have been dragging their feet and protesting that the changes will disrupt local business conditions. Finance ministry officials have softened their initial hard line on implementation of the changes to exhorting businesses crying foul to take professional advice on getting their houses in good order. They are also recognising that the tight timeline they first set is unlikely to be met.

Local officials are feeling squeezed between using a tried and trusted policy tool — preferential treatment for local investors and enterprises — to reverse the overall slowdown in economic growth and the fiscal discipline being imposed on them from above. They have already had their financial freedom crimped by restrictions on their access to off-balance sheet financing, notably through captive special investment vehicles.

The primary driver for that was central-government fears about the risks of the local-government debt bomb going off. The anti-local protectionism measures are more about central government removing the local distortions that bedevil the economy while at the same time exerting more central control over fiscal management.

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Beijing Calls A Halt To Direct Local Bond Issuance

China has called a halt to an experiment launched last October that let local authorities issue bonds directly. The provision permitting it was dropped from the draft budget law for its second reading earlier this week. State media quote Hong Hu, deputy director of the National People’s Congress’s law committee saying, “Considering the rapidly growing scale of local debt, attention must be paid to the accompanying problems and potential risks.”

Local authorities’ debt was 10.7 trillion yuan ($1.7 trillion), approaching 30% of GDP, as of the end of 2010, according to a June 2011 official audit, the first time the numbers were made pubic. While China’s local government debt bomb has concerned central government for some time, the roll-back follows a review of local government’s captive commercial investment companies. These take local government obligations off-balance sheet, and mostly put them in a murky world of local property development. These investment vehicles have raised 330 billion by issuing corporate bonds so far this year, compared to total new issuance of 300 billion yuan in the whole of last year.

With 28% of the local-government debt issued as part of the stimulus introduced in the wake of the 2008 global financial crisis falling due this year and next, Beijing is increasingly aware of the risks of bond defaults, particularly at a time when it is seeking to expand its capital markets, including the muni-bond market, as part of broader financial reform. The World Bank has warned of systemic risk.

The finance ministry will continue to issue bonds on local authorities behalf. That issuance will reportedly increase fivefold to 250 billion yuan this year. The draft budget law includes a loophole that would let local authorities issue bonds with specific permission from the ministry, an indication that direct issuance will be reconsidered once the clear and present danger has passed.

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A Missed Tock Of China’s Ticking Debt Bomb

This Bystander is hardly cheered, if not surprised, to read this report via Bloomberg:

China’s local government debt may be almost 3 trillion yuan ($473 billion) higher than the figure given by the nation’s audit office, if loans taken out by township governments are included, the Economic Observer reported, citing research from an independent institute.

Borrowing by townships, an administrative tier of government below provinces, cities and counties, wasn’t included in a report by the National Audit Office in June that put debt from those three levels at 10.7 trillion yuan, the weekly newspaper said in a report on its website dated Nov. 12, citing Beijing Fost Economic Consulting Company.

At a total of 13.7 trillion yuan, or $2.2 trillion for those of you keeping score at home, that is only chump change at that level off Italy’s outstanding sovereign debt ($2.6 trillion). We’ve seen how these ticking debt bombs can upset markets and oust political leaders. China is fortunate not to have a democratically elected government that investors could force to resign, as they did in Italy and Greece.

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China’s Local Government Debt Is Large But Manageable–For Now

The audit of China’s local government debt paints a reasonably reassuring picture. The question is how complete that picture is.

The National Audit Office put the debt at 10.7 trillion yuan ($1.7 trillion) at the end of 2010. That is 27% of GDP, far lower than the worst expectations (this is the first time the numbers have been made public). It is also much higher than the central government’s debt of 17% of GDP. Add in all the usual liabilities that goes into a country’s public debt number and China is looking at an overall number  of 80-90% of GDP, not particularly high by international standards but in such a state-centric economy, it will all come back to central government one way or another.

Much of Beijing’s stimulus package in response to the 2008 global financial crisis flowed through local government spending on public works. Local government debt rose by 62% in 2009 over the previous year, as local authorities laded up with bank debt (and the banks, state owned, with potential bad debt). The borrowing increased by a further 19% in 2010.

It also encouraged the widespread use of special investment vehicles to get round restrictions on borrowing. The audit says that there were 6,576 such vehicles, with a combined debt of $5 trillion. Yet this shadow financing system is only partially accounted for by the audit. Only loans explicitly guaranteed by local governments has been included.  Beijing is already reported to be planning to shore up local government finances with a 2 trillion-3 trillion bailout to cover the 23% of the lending to projects with neither collateral nor viable cash-flow to cover their debt service (this bailout could include some securitization of loans for resale to private investors or through the bond market). In addition, the central bank has told banks to increase their capital reserves against similar projects that are only generating sufficient cash flow to service part of their debt.

The situation seems manageable for now, though central policy makers’ concern remains acute as they work on defusing the debt bomb. Most local-government debt has long maturities and fiscal and land revenues have been strong, even if land sale revenues are now softening. The risk of a local government debt default remains low–as long as economic growth remains brisk and the state-owned banks can be made to absorb some of the worst bad debts. The tick-tock of the debt bomb may be getting a bit less audible but it is still there.

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Bailing Out China’s Indebted Local Governments

This falls into the important if true category: Reuters reports that China’s regulators plan to move 2 trillion-3 trillion yuan ($308 million-462 million) of debt off local government’s books. This Bystander has highlighted before the potential debt bomb waiting to explode in local government finances. The finance ministry said with measured understatement in its report to the National People’s Congress in March that “local governments face debt risks that cannot be overlooked” and gave fair warning that it was going to get local government finances under control.

Following a nationwide flash audit of provincial and municipal governments’ borrowings, both direct and indirect, that has reportedly determined that local governments have borrowed around 10 trillion yuan with around 2 trillion yuan worth of that at risk of default, Beijing is now sending in its financial UXB squads. Some of the debt will be written off directly, Reuters says, while the big state owned banks will be required to eat some of the rest, and still more of it will be put into undefined investment vehicles that sound like a “bad debt bank” that will take in private investment.

The most significant change that Reuters says is in the offing is one that has been long trailed, developing the nascent muni-bond market. The idea is that provincial and local governments will bolster their finances with more a more transparent source of funding, bonds, in place of the off-balance sheet captive investment vehicles, also known as financial platform corporations, that they have resorted to to get round existing restrictions on official borrowings. As of last June, these captive investment vehicles accounted for 7.7 trillion yuan of local government borrowings (more than three-quarters of the total, note), and had become some of the most dangerous parts of local government finances in the eyes of the finance ministry. We assume the flash audit only confirmed ministry fears that the situation has deteriorated since. (Update: the central bank says there at 10,000 captive investment vehicles, up 25% from the end of 2008.)

What makes that so potentially destabilizing for the economy is that so much of China’s development spending goes through local rather than central government. Last year, for every yuan that central government spent directly, local governments spent four and a half (though 44% of local government’s revenue comes from Beijing in the form of tax rebates and transfer payments). This is a huge tail wagging the dog.

Changing this situation is likely to face institutional resistance from China’s sprawling bureaucracy. As well as expanding the embryonic muni-bond market, it will require a move away from rewarding local officials for promoting economic growth above all and from local government’s dependence on land-sales for revenue. Greater transparency will also make the dipping of local hands into the honeypot of public money more difficult — another potential source of resistance.

But it will be fought. Beijing has little choice. A exploding local government debt bomb and a bursting of the property market bubble, (the two are so closely linked that the one would likely trigger the other) are the banking system’s greatest vulnerabilities. With the leadership transition already under way, the last thing that the new leadership will want to start with is a full-blown domestic banking crisis, especially as the outgoing leadership prides itself on how well China survived the 2008 global financial crisis, even though China’s banks are among the world’s least efficient when it comes to assessing risk and allocating capital.

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Defusing China’s Local-Government Debt Bomb

The finance ministry’s budget report to the National People’s Congress contained the line, “local governments face debt risks that cannot be overlooked”. It was buried deep in the text but caught this Bystander’s eye for the red flag raised by its very understatement. Beijing is now looking very hard and directly at those risks.

A nationwide flash audit of provincial and municipal governments’ borrowings, both direct and indirect via captive investment vehicles (also known as financial platform corporations), was launched at the beginning of this month, Caixin reports. Eighteen teams of auditors have four months to complete it.

Finance ministry officials and bank regulators have been concerned for sometime about the risks involved in the 7.7 trillion yuan ($1.2 trillion) of bank loans made to local governments’ captive investment vehicles as of June 30th, with 23% not backed by cash flows.  The China Banking Regulatory Commission (CBRC) discovered in February that more than half of new bank lending wasn’t meeting its new credit rules designed to mitigate the fear that China’s banks are sitting on a potential dung heap of bad loans; its concern was particularly acute about direct and indirect lending to local governments.

The unexpected new audits suggest that the concern over the debt risk to local-government finances is deepening, and that, perhaps, the numbers have worsened significantly since last June, intensifying a general concern in Beijing about the overall weakness of local-government governance. The finance ministry has cataloged the points of vulnerability:

We are fully aware that some prominent problems concerning fiscal operations and management still exist, the main ones being: Some county and township governments remain in rather difficult financial circumstances, and assurances of adequate basic funding for them have to be strengthened. The system for ensuring that financial resources are correlated with responsibilities still has yet to improve, and the task of making basic public services uniform between regions and between urban and rural areas is quite arduous. The fiscal and taxation policies for promoting the transformation of the pattern of economic development need further improvement, and public finance must play a larger role in adjusting income distribution. Local governments face debt risks that cannot be overlooked. Management of revenue and expenditures from the sale of land-use rights urgently needs to be strengthened. Fiscal management remains weak, and the pace at which expenditures are made throughout a fiscal year is not sufficiently uniform.

What is needed is an intensified pace of structural reform. Central government policy under the new five-year plan sharpens the focus of economic development to provide social services and public welfare projects to narrow the regional inequality gaps and blunt the corrosive inflation seen as so threatening to political stability. Provincial and local governments will be the vehicles for delivering much of that. Last year, for every yuan that central government spent directly, local governments spent four and a half yuan (though 44% of local government’s revenue comes from Beijing in the form of tax rebates and transfer payments). This is a huge tail wagging the dog.

Beijing doesn’t want the dog dropping dead because the tail implodes. So the finance ministry is sounding tough about getting to grips with local-governments’ debts:

We will strengthen supervision of local government debts and strive to guard against financial risks. We will promptly set up a system for the overall management and dynamic monitoring of the debts of financing platform corporations , and standardize management of these debts. We will accelerate the establishment of a mechanism to control the scope of local government debts and a mechanism to warn when they get too large, and promote the standardization of local governments’ debt financing.

Easier said than done given China’s sprawling local bureaucracy, and it will require a change to rewarding local officials for promoting economic growth above all and to local government’s dependence on land-sales for revenue. But none the less urgent for that. In 2011, Beijing plans to increase the amount of money it will hand over to local governments by a budgeted 15.3%. In all, local-government spending is budgeted to increase 11% from 2010’s levels. The finance ministry will cover a collective 200 billion yuan local governments deficit with bond issues.

Local governments can expect to be increasingly under Beijing’s thumb to be accountable for the money they are getting. They can also expect unrelenting reform of their finances and governance. The finance ministry has already said that  that it will “eliminate all extra-budgetary funds and place all government revenues under budgetary management.”

None of this will be particularly comfortable for local officials used to the mountains being high and the emperor far away. The transparency the reforms imply, if it can be brought about, will also make the dipping of local hands into the honeypot of public money more difficult — another potential source of discomfort. None can say they are not getting fair warning. But if China’s local-government debt bomb explodes first, that will be the least of everyone’s worries.

 

 

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Fixing Healthcare In China: First Fix Local Government

A big part of China’s widening inequality gap is disparities in the provision of healthcare, both between town and country and between rich and poor. Policy makers in Beijing want health care reform to play a leading role in closing the gap–one reason that the system is being overhauled to provide accessible and affordable healthcare widely. But as the World Bank notes in a new policy research working paper, Equity and Public Governance in Health System Reform: Challenges and Opportunities for China, national policy reform isn’t working through to implementation at provincial government level and below.

The funding and the instructions may be coming through from Beijing just fine: government spending on healthcare is now within touching distance of the 1.5%-2.0% of GDP the World Health Organization says it will take to provide primary health care for all, after having lagged for years in the 0.7%-0.9% range. But how and where the money is being spent is in local hands. At the prefectural, municipal and district levels priorities tend to transform into something different from those of central government. The mountains are high and the emperor far away.

As a result for the past decade, healthcare resources have been concentrated on the larger towns and wealthier areas in ways such as building expensive specialized urban hospitals. Beijing and Shanghai, for instance, the paper notes, are better equipped with magnetic resonance imaging machines and other advanced medical equipment than a typical European city. Meanwhile, rural areas are suffering from preventable deaths for lack of resources.

To redress all this, the Bank says:

It may be crucial to strengthen the role and accountability of provincial governments. Provincial governments may have to become explicitly responsible for equity and efficiency in public resource allocation, for national policy implementation, enforcement of laws, standards and regulations, and for adequate health system performance within the entire province.

The paper has detailed suggestions on how this could work. Were it to happen, healthcare would be similar to education, where achievement of the national goal of universal nine-year compulsory education is subject to performance evaluation at the local level. At present, healthcare is more like food safety, or product and environmental safety come to that, where strict national laws and regulations are undermined by poor local implementation.

For all that to change, it will require parallel reforms in local governance and the way local government is funded. That is also going to be necessary for all central government’s other plans to reduce inequalities across society through the provision of better social services as outlined, yet again, by Prime Minister Wen Jiabao in his web chat at the weekend. That in turn will provide a challenge for the new leadership that will have to transform almost beyond recognition a local officialdom that has hitherto had little incentive to deliver the efficient and equitable provision of public services.

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Fixing China’s Local-Government Finances

What strikes this Bystander as interesting about the World Bank’s latest quarterly update on China’s economy is not so much the 9.5% forecast of GDP growth for this year. A glance at any factory, wharf or store gives one an intuitive sense that the economy is outpacing last year’s 8.7% growth. All the Bank’s macro points — modest inflation risk, concern for real-estate bubble, need for more monetary tightening, correctness of fiscal neutrality, advisability of revaluing the currency — strike us as sound and unsurprising, too. What did catch our eye was the attention given to the strain on local government finances.

The central authorities have rightly increased vigilance over lending by local government investment platforms. Given China’s solid macroeconomic position, the local finance problems are unlikely to cause systemic stress. But the flow of new lending to the platforms needs to be contained and local government revenues need to become less dependent on land transaction revenues.

A huge amount of last year’ 9.6 trillion yuan of new bank-lending found its way into local government infrastructure projects. These are frequently done through captive commercial investment companies so provincial and municipal officials can get around the rudimentary system Beijing has for allocating tax revenues to provinces and cities for spending. The concern is that these investment getarounds, of which there are an estimated 3,000, won’t generate sufficient returns to pay operating and interest costs or to repay the loans taken on, leading to a rise in non-performing bank loans, especially at smaller (and weaker) regional and local banks, or leaving local governments holding the can.

The CBRC recently estimated that their bank debt increased by RMB 1.3 trillion in 2009 to RMB 5‐6 trillion at end 2009, with estimated additional committed lines of RMB 3 trillion. The possible total of RMB 9 trillion is equal to 27 percent of GDP, while some other estimates of the total liability are even higher. However, a large portion of this debt was accumulated before 2009 and so far no systemic problems have occurred as a result of it.

Even if, as the Bank repeatedly notes, the problems won’t rise to the level of a systemic risk to the banking system, Beijing has already spent trillions of yuan this decade in cleaning out the banks’ bad-loan books and doesn’t have any apetite to do so again.  It wants to clean up and rein in local government debt growth before it becomes another bubble.

The PBC and the CBRC have both warned of potential problems and called on banks to strengthen risk assessment of lending to local government projects. Some individual banks subsequently announced increased vigilance towards this type of lending. The central government is apparently considering issuing new rules on local government guarantees, with suggestions that letters of guarantee or comfort will not be valid anymore.

Tighter administrative restrictions on circumnavigational financing through local governments’ investment units is being accompanied by giving provinces and municipalities more direct access to capital markets, including an experiment with a local-government bond market. The Bank encourages Beijing to go much further:

Reform of the intergovernmental fiscal system is needed to increase and diversify the revenue base of local governments, making it rely less on volatile land sale revenues. Moreover, local fiscal activity needs to become more transparent. It would be good to include land sale revenues and the infrastructure and urban development activity in local government budgets.

That, though, would be the work of more than one five-year plan.

Update: China Daily has an example of what can allegedly go wrong.

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