Singles' Day: China fixes its local debt, not its shoppers

Beijing unveiled a RMB 10 trillion ($1.4 trillion) debt-swap programme on the eve of Singles' Day, meant to help local governments refinance hidden off-balance-sheet debt over five years. Investors had waited weeks for the fiscal package. Those who had bet on a boost for shoppers were disappointed.

The package came in two parts. The standing committee of the National People's Congress raised the ceiling on local government debt by RMB 6 trillion, to be used over three years to swap hidden debt into official bonds. Another RMB 4 trillion will come from local special bonds over five years, earmarked for the same purpose. Lan Fo'an, the finance minister, said hidden local debt, which stood at RMB 14.3 trillion at the end of last year, would fall to RMB 2.3 trillion by 2028.

Help for councils, not households

The swap was needed to steady local government finances. It included no cash handouts, consumption vouchers or extra welfare for ordinary consumers. Singles' Day spending is still held back by falling property values and shaky job prospects. Beijing has chosen to spend its fiscal firepower on cleaning up municipal books before it tries to lift household spending.

Where the hidden debt came from

The debt was hidden by design. For years local governments were barred from borrowing directly, so they set up local government financing vehicles, companies that borrowed from banks and bond markets to build roads, industrial parks and housing. Their repayments depended on selling land to property developers. When the property market collapsed, land sales revenue fell sharply, and many vehicles could no longer service their debts without help. Some local governments fell behind on paying suppliers and civil servants.

The swap replaces expensive, short-dated debt owed by these vehicles with cheaper, longer-dated official bonds. The finance ministry said the saving on interest would be substantial over the five years. It also removes the threat of a disorderly default by a financing vehicle, which could have hit the banks and trusts that hold their bonds. That matters for financial stability. It does not put any extra money into the economy, since the debt already existed and the spending it financed happened long ago.

Someone has to accept lower returns for that stability, and it is mostly the banks. Chinese lenders hold much of the debt owed by financing vehicles, often at interest rates well above those on government bonds. When those loans are swapped for official bonds, the banks' interest income falls, squeezing margins that are already thin. The winners are the suppliers and contractors owed money by local governments, who should be paid more promptly once the refinancing frees up cash, and the officials who can spend less time juggling debts.

This has been tried before

Beijing ran a similar exercise in 2015, when it converted trillions of yuan of local debt into bonds over three years. That programme eased funding pressure for a while, but local governments soon found new ways to borrow off their books, and the hidden debt grew back. The lesson is that a swap treats the symptom. Unless local governments get a steadier source of revenue than land sales, or central government takes on more of their spending, the cycle is likely to repeat.

Shoppers are still waiting

The consumer data explain why investors were hoping for more. Consumer prices rose by only 0.3 per cent in October from a year earlier, and factory-gate prices have been falling for more than two years. Alibaba stopped publishing its Singles' Day sales figures two years ago, and the festival has become longer and more heavily discounted. A trade-in subsidy for cars and household appliances, funded by special bonds, has lifted sales of those goods, but it is small relative to an economy of China's size.

Direct transfers to households would work faster. Chinese households save a high share of their income, in part because the welfare system is thin: pensions for rural residents are tiny, and medical costs fall heavily on families. Higher pensions, child benefits or support for migrant workers to access public services in cities would raise spending more reliably than cheaper credit. Beijing has long resisted such measures, preferring to direct money towards investment and industry.

Why Beijing held back

There is a case for patience. Donald Trump's election victory last week raises the prospect of American tariffs of up to 60 per cent on Chinese goods, which he proposed during his campaign. Beijing may prefer to keep its fiscal ammunition for when it knows the scale of the trade shock. Mr Lan also said more measures were coming, including support for property and plans to replenish the capital of the big state banks. The Central Economic Work Conference in December and the National People's Congress in March, when next year's deficit target is set, are the obvious moments to announce them. Holding back also keeps the central government's own balance sheet clean, which gives it room to borrow heavily later if exports slump.

The risk in waiting is that deflation becomes self-reinforcing. When prices fall, households delay purchases, firms cut wages, and real debt burdens rise. Japan's experience in the 1990s shows how hard that cycle is to break once expectations settle. Every month that consumer prices hover near zero makes the eventual stimulus more expensive, because each yuan of spending has to overcome more entrenched pessimism among households and firms.

What to watch

The signals will come from monthly data on retail sales and consumer prices, from the size of next year's official budget deficit, and from any announcement of direct support for households. A deficit target well above the 3 per cent of GDP set for this year would suggest Beijing has shifted its priorities.

The debt swap should keep local governments from defaulting over the next five years. Without money for households, Chinese retail spending will probably stay stuck in deflation for at least another year. Expect consumer price inflation to stay below 1 per cent through the spring, and Chinese bond yields to keep falling while it does.