Moody’s Investors Service has changed the forecast for Chinese sovereign bonds, lowering the corresponding indicator to negative.
The mentioned experts, in the context of explaining their vision of the future of the world’s second economy from the point of view of the foreseeable prospects, mentioned global concern about the size of the debt of the specified country. Moody’s downgraded its outlook to negative from stable. At the same time, China’s long-term sovereign bond rating was maintained at A1. Experts say that Beijing’s application of fiscal incentives to support local governments and the deterioration of the situation in the real estate sector, where a downturn is observed, are risk factors for the country’s economy.
The Chinese authorities commented on Moody’s decision to worsen the outlook for sovereign bonds, saying that this opinion is disappointing. Also in this context, representatives of the country’s leadership noted that the local economic system has great potential and will be very sustainable. The statement of the Ministry of Finance of China contains the assertion that the negative situation in the real estate sector as a factor of influence on the economy is under control. It is also separately noted that the country has the opportunity to continue to deepen reforms and respond to challenges.
Moody’s revised the forecast against the background of what Western media call the destruction of property in China, which is intensifying and contributing to the transition to fiscal stimulus. Currently, Beijing is increasing its borrowing. The authorities consider these actions as the main measure to strengthen the economic system. Against this background, concerns have arisen about the level of public debt. The anxious mood became more persistent after it became known that Beijing is preparing for a record bond issue this year.
Viraj Patel, global macro strategist at Vanda Research, says that a downgrade or a change in outlook to negative is often evidence of the low in terms of bad news and market selloffs. According to the expert, it’s hard for things to get worse than current bearish expectations, and it only takes a little to see a tactical rebound or short squeeze. Viraj Patel also claims that the situation is unlikely to change in the next two to three months compared to its current configuration.
The year 2023 has started very positively for the Chinese economic system. After the lifting of restrictions caused by the coronavirus pandemic, and became a factor in slowing down many processes in the structure of the state’s life, there was some improvement in the situation. However, the abolition of the zero-tolerance policy for Covid, which existed in the form of a ban of various kinds, launched a weak economic recovery momentum, which did not meet the expectations of the Chinese authorities, society, and several experts. The already negative situation in the real estate sector has also worsened, which is a factor of significant pressure on the country’s economic system, complicating and casting doubt on growth prospects.
In November, China recorded a decrease in the level of activity in the manufacturing industry and sphere of services. Against this background, the opinion that Beijing needs to take additional measures to support the process of restoring the economic system, which turned out to be very shaky, has strengthened and received new arguments.
In October, the President of the People’s Republic of China, Xi Jinping, unequivocally and very clearly stated that circumstances such as the slowdown in economic growth and the persistence of deflationary risks should not be perceived as a state of affairs with which it can be reconciled and which does not require a response in the form of concrete actions to remedy the situation. The Government of the country this year increased the overall budget deficit to the highest level in the last 30 years. In 2023, China’s deficit-to-GDP ratio is 3.8%. The limit set by the local authorities is 3%. These indicators indicate that the situation is difficult.
During the current year, the Chinese government sold additional sovereign bonds worth 1 trillion yuan ($140 billion) to provide assistance in the event of natural disasters and within the framework of projects in the construction sector. Local authorities were also involved in this economic activity. Sales of special bonds for refinancing were carried out at the regional level. This move by the local authorities was aimed at exchanging part of the off-balance sheet debt, which involves high costs.
Moody’s says the Chinese government is currently focused on preventing financial instability. Experts note that in this case, an important factor is the political problem caused by the debt of local authorities. Moody’s argues that it is very difficult to deal with the risk of a financial market collapse, avoiding moral costs and restraining budget expenditures.
The yuan exchange rate is currently showing stability. In domestic and foreign trading, the Chinese currency remains within the limits of sustainability. The yield on 10-year government bonds is 2.68%. At the same time, the MSCI China index showed a decline of 1.7%, reaching its lowest level since November last year. After Moody’s decision, this indicator retained most of its losses.
The media, citing traders, report that after the rating change, China’s large state-owned banks began selling dollars in large volumes against the yuan on the onshore market. Some commercial financial institutions have also joined this practice. Getting rid of the dollar contributed to a rebound of the yuan.
The previous deterioration in China’s credit outlook by Moody’s experts occurred in 2017. At that time, the reason for this decision by the agency’s staff was the likelihood of a significant increase in debt across the economy and the potential impact of this scenario on public finances. In 2017, the rating was downgraded from Aa3 to A1. This was the first deterioration in the outlook for Chinese debt since 1989.
Fitch Ratings Ltd. this year also announced the likelihood of a revision of China’s sovereign credit rating at the A+ level. Over time, this firm confirmed the rating with a stable outlook.
S&P Global Ratings is not yet inclined to be significantly pessimistic about the Chinese economic system. The company has maintained Beijing’s A+ ratings with a stable outlook since the last downgrade in 2017.
Ken Cheung, chief Asian currency strategist at Mizuho Securities, says that the risk of a downgrade is likely not to have a significant impact on the Chinese government’s debt issuance plans, which could reduce concerns about the state of affairs in the real estate sector and weak economic growth.
Moody’s predicts a gradual weakening of the dynamic of China’s economy. The agency’s experts expect that next year and 2025, the growth rate in this sphere will be 4%. In their opinion, in the period from 2026 to 2030, the average value of this indicator will be at the level of 3.8%. They also assume a decrease in economic growth to 3.5% by the end of this year due to structural factors, including the deterioration of the demographic situation.
The Organization for Economic Cooperation and Development said last week that systemic stresses in China are a threat to the state of affairs in the global economy from the perspective of the dynamic of the relevant indicators. Experts of the organization predict that next year economic growth in this country will be 4.7%, which is a deterioration compared to the current 5.2%. Analysts explain their point of view by such factors as the low level of consumer activity and the continued deepening of the crisis in the real estate sector.
As we have reported earlier, McKinsey Says About Absence of Signs of Recovery in Consumer Activity in China.