Debt Replacement Slows Credit; Credit Risk Threatens Debt Market
Yicai Global
/SOURCE : Yicai
Debt Replacement Slows Credit; Credit Risk Threatens Debt Market

(Lian Ping, Chief Economist at Bank of Communications Co.)

(Yicai Global) Aug. 25 -- China will continue to face downward economic pressure due to a complex and volatile economic and financial situation both at home and abroad in the second half of this year.

Credit in China is expected to grow at a relatively stable rate with the help of prudent monetary policy. Frequent bond defaults have adverse effects on the growth of bond financing and equity financing. The development of direct financing may be under pressure in the second half. The value of social financing for the year may reach CNY17 trillion (USD2.5 trillion), with new credit totaling CNY 12.5 trillion.

If monetary policy remains robust, flexible, and modest in the latter half of the year, the annual M2 growth rate could remain between 12.5 percent and 13 percent. In the context of increased credit risk, a further decline in the market interest rate and loan interest rate would be restricted.

Credit data for the first seven months of 2016 have the following characteristics: the medium-term and long-term loans of residents grew rapidly, with new credit of between CNY3.09 trillion and CNY1.47 trillion more than the same period of last year. Rapid growth was made possible mainly due to the housing price hike in first- and second-tier cities. The short-term loans of companies, affected by the operating conditions, remained low, and the medium-term and long-term loans of companies failed to increase, despite their growth at the beginning of the year which was mainly boosted by credit demand stimulated by the government's policies of stabilizing growth.

Once these funds were released, medium- and long-term corporate loans began to shrink, which to some extent reflected the reality of weak investment intention and credit demand, and reflected the fact that companies were under great pressure to improve their performances. Of course, medium- and long-term corporate loan growth were also greatly affected by debt replacement restarted by local governments in March.

In the next few months, monthly credit growth will continue to be affected by local government's debt replacement moves, resulting in big fluctuations in monthly growth figures. The influence of debt replacement in a specific month is hard to discern since its specific arrangements are unknown. However, based on the plan to replace debts of CNY11.4 trillion within two years, local governments should complete debt replacement of about CNY5.7 trillion annually. The faster the debt is replaced, the sooner local governments can reduce their debt burdens. Therefore, it is expected that local government debt replacement may hit CNY5.7 trillion this year. If estimated at a conservative figure of CNY5.7 trillion, assuming that two thirds of that figure is comprised of bank loans, credit will grow at an annual rate of 14 percent. If new credit amounts to CNY12.5 trillion, then actual credit growth may be about CNY16 trillion, with an increase of more than 17 percent. For this reason, the process of debt replacement should be watched closely in the future. The market need not worry about sharp contraction of credit growth in any single month, since it may be the result of the debt replacement volume in that month.

Credit growth will be affected by other factors in addition to debt replacement in the second half. Whether or not the heat in the property market can be reduced will decide whether the growth of residents' medium- and long-term loans will remain high. Based on recent macro-control policies on real estate in first-tier cities and major second-tier cities, the property market will experience a weakened boost for demand for residents' medium- and long-term loans in the second half. However, the real estate market in second-tier cities may improve investors' confidence, which would have a positive effect on credit growth from real estate companies.

In the context of overcapacity cuts, deleveraging, and structural reform, many manufacturers are under pressure. Some companies are more likely to default on credit, and commercial banks have a high rate of non-performing loans. All these factors constrain corporate credit growth in the second half of the year.

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