Tag Archives: muni-bonds

Building Out China’s Bond Markets

The ambitious urbanization plans of new leader Xi Jinping will provide the next stimulus for developing China’s nascent bond market, we read in a Reuters report. Beijing has been taking ever larger steps in expanding its municipal and corporate bond markets as part of broader reforms of both the financial system and of local government finances.

The latter are teetering under the burden of more than 10 trillion yuan of debt, a large chunk of which already strained banks have recently had to roll over. Much of it is a consequence of the stimulus spending in the wake of the 2008 global financial crisis with a booster from last year’s spending to reverse the economic slowdown. Central government policy makers aren’t shy in laying down grand plans for local government to build out and pay for.

The finance ministry, which since the 1994 local government reforms has handled what bond issuance their has been on behalf of local governments, has been cautiously lifting the ceilings of permitted amounts and expanding the list of provinces that can do to the markets directly. As well as trying to let down China’s local-government debt bubble before it can go damagingly pop, an expanded muni-bond market also pushes provincial and municipal governments in three other desirable directions: less reliance of land sales to raise revenue; less need to repair to the shadow banking system to get round restrictions on official borrowings; and more transparency generally about their finances.

The scale of the proposed urbanization bond issuance is likely to be on scale unlike anything seem before, though. The current quota for local government bond issuance is 250 billion yuan ($40 billion). The domestic non-financial corporate bond market is larger; the Shanghai Securities News reported it had reached 3.45 trillion yuan for the year to date by November last year, three quarters as much again as a year earlier. The urbanization program is being pegged at upwards of 40 trillion yuan over 10 years.

Potentially doubling the size of the bond markets over that time will demand not just a fully-functioning muni-bond market, but also more robust corporate and high-yield bond issuance that can pull in foreign capital. It will also require the development of a secondary market in the issues. Otherwise, if held to maturity,  bonds become just a variant of bank lending, and will do little to divert risk from the state-owned banking system that now provides three quarters of China’s credit.

There is much other structural work to be done beyond that, including further consolidation of the three regulatory agencies that now have responsibility for various bond issuance, and a lifting of restrictions in the qualified foreign institutional investor rules that limit bond funds’ investment in bonds. Most of all it will need the government to let a few issues default so investors realize that the government won’t always bailout troubled issuers and that there is a risk to be priced in. That may be the most difficult change of all.

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China’s Financial Reform: ‘Making Progress While Maintaining Stability’

Chinese Premier Wen Jiabao (front) attends the National Financial Work Conference in Beijing, Jan. 7, 2012. (Xinhua Photo)

There were no great expectations of the fourth quinquennial national financial work conference that has just ended in Beijing. And it seems to have met them.

These two-day meetings set broad policy objectives for the coming five years. In the past they have provided a blueprint for significant financial-system reform. But with a leadership transition already underway, the start of a new five-year plan and growing nervousness among policymakers and political leaders about the volatile outlook for the global economy and the potential implications for China’s growth, there is no great appetite for much beyond keeping a steady ship.

“Risk-aversion should be the lifeline of our financial work,” said Prime Minister Wen Jiabao, seen in the Xinhua photo above arriving for the start of meeting with the men and woman in whose hands so much rests. Wen also said that there would be greater supervision of the banks, which, he said needed to improve their governance and risk management.

Risk control and prudent macroeconomic management were the order of the day, as they were at last month’s annual economic work meeting. “Making progress while maintaining stability,” is the mantra. The emphasis is currently on the stability.

More detail about the financial work meeting will likely drip out over the coming days. The post-meeting statement dealt in generalities, but two leading topics of discussion were the currency and interest rates. Moves towards more market oriented interest rate mechanisms are necessary if China is to become more efficient at capital allocation, as it needs to be as its economy develops from its invest and export model of the past three decades. But steps have been tentative in the face of some vested interests who have thrived on cheap and ready bank loans. We expect the equally tentative steps to develop bond markets to be given priority over interest rate liberalization, with provincial and local governments being given more scope to sell bonds to firm up their finances. However, when it comes to developing a corporate bond market, don’t underestimate the political task in getting the big state owned enterprises to be supportive of a new source of credit that will be more demanding of their performance.

The internationalization of the yuan is also likely to continue at a measured pace, while the exchange rate against the dollar won’t be allowed to drift much higher. Policymakers feel that with the trade surplus shrinking the currency is at the right sort of level. It has risen by a third since the peg with the U.S. dollar was first broken seven years ago. Wen said China “will steadily proceed with efforts to make the renminbi convertible under capital account to improve its management of the foreign-exchange reserves”–though that is pretty much boilerplate.

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China’s Muni-Bond Market Brought Back To Life

This Bystander noted last year that moves were afoot to develop a municipal bond market as a way to put the financing of provincial and local governments on a more transparent footing, and to wean it from the off-balance sheet financing via captive investment vehicles that local authorities have resorted to get round restrictions on official borrowings. As of June, 2010, these captive investment vehicles accounted for 7.7 trillion yuan of local government borrowings (more than three-quarters of the total), and had become some of the most riskiest parts of local government finances in the eyes of the finance ministry.

Now, Zhejiang and Guangdong provinces and the municipalities of Shanghai and Shenzen have been given permission by the ministry to issue three- and five-year bonds on a trial basis. It is the first such direct muni-bond issuance sanctioned in 17 years.  Collectively the quartet are expected to be capped at 20 billion-30 billion yuan first time round. (Update: Shanghai, 7.1 billion yuan; Guangdong, 6.9 billion yuan; Zhejiang, 6.7 billion; and Shenzhen 2.2 billion yuan.) That would be one-tenth of the annual issuance now made by the finance ministry on behalf of local governments to help meet funding shortfalls.

Though the bonds will issued by the four authorities, they will be closely supervised by the ministry. The proceeds of the sales will be kept in a special account at the ministry, which will oversee the payment of interest and principal, and, in effect, guarantee the bonds. The ministry will also have a big say in what the money raised can be used for. Zhejiang is expected to be first out of the gate, raising funds for infrastructure projects. If all goes well, other provincial and city governments will be allowed to follow suit.

Beijing banned local governments from selling their own bonds–and from running deficits, come to that– in 1994 when it became concerned local authorities were running up huge debts they wouldn’t be able to pay. Now policymakers are concerned that local authorities have again borrowed too heavily in the wake of China’s post-2008 global financial crisis stimulus, and that in a slowing economy and cooling property market they will again struggle to repay their loans. Worse, that could trigger a banking crisis.

While the immediate priority is to clean up and deflate the local government debt bubble before it can go damagingly pop, the development of a local-government bond market is in Bejing’s long-term plan for developing its domestic financial markets. Beijing is moving cautiously, however. It remains wary of giving provinces more control over their own development, at the expense of central control. The initial quartet are trustees, so to speak, and financially sound enough to test the waters without too great a risk of mishap.

Beijing will still have to guarantee the debt of many provinces for sometime to come, and there is a real risk that some of the weaker provinces won’t able to maintain their debt service. As Liu Mingkang, head of the banking regulator, noted earlier this week, there are serious concerns about the levels of local government debt. “We cannot deny that local government financing platforms have not been managed well,” he said.

A quick glance west to Greece or east to California reveals the trouble fiscally wayward and heavily indebted national and local governments can get into. Having prided itself on avoiding the worst excesses of the prelude to the recent global financial crisis, Beijing doesn’t want to go there in its aftermath.

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