China has a debt problem too

Some doomsayers are punting on a hard landing for the Chinese economy but Magellan Financial Group is more willing to give the country’s leadership credit for being able to manage its burgeoning debt. Photo: AFP

As Europe continues to teeter on the brink of financial catastrophe, it’s easy to think everything is hunky dory in other parts of the world – particularly Asia, which has so far weathered the financial travails pretty well.

But, looking beyond China’s welcome flash PMI reading on Tuesday, which showed the index was moving closer to growth again with a rise to a five-month high of 49.5 in July, there’s still a question or two hanging over the country’s burgeoning debt.

The team at Magellan Financial Group draw attention to this in their yearly investor report, highlighting a potential downside of the Chinese government’s use of massive stimulus to drive economic growth over the past three years.

Magellan points out that local government debt in the country is now sitting somewhere between 40 per cent and 50 per cent of GDP, while central government debt is around 20 per cent, which puts China almost in the same debt league as the US, UK and Germany.

What does this mean?

“Some market participants have stated that they believe the policies of recent years will result in a hard economic landing, with massive loan write offs and a property crash,” the investment firm says.

However, just because there are some doomsayers out there punting on a big fall from grace for Asia’s economic powerhouse, that doesn’t mean our friends at Magellan agree.

Instead: “We believe this [hard landing] scenario is unlikely as we believe the Chinese authorities have the tools available to absorb bad loans and curb further speculation. We agree with many economists that China is engineering a relatively soft landing with slowing economic growth, albeit at healthy levels.”

All this comes against a backdrop of other big questions for China, which continues to face scrutiny over issues such as yuan internationalisation and whether it can successfully move up the export value chain.

There have been some signs recently of US companies shifting a bit of production back to their homeland and, much as India has faced with offshore tech outsourcing, there’s an emerging threat of lower cost competition from countries such as Vietnam and Bangladesh.

In the face of these challenges, some observers are rightly asking whether China has what it takes to build an innovation economy and to maintain the lifestyle its growing consumer class has come to expect.

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