February 2022 / EMERGING MARKETS EQUITY
China Deleveraging: Domestic and Global Impacts
A multiyear path to reduce financial risk and improve credit allocation.
- Deleveraging returned in 2021 as a key focus of China’s economic policy, with a multiyear strategic aim of controlling the debt‑to‑GDP ratio.
- For China, deleveraging means a period of slower economic growth and larger external surpluses, with short‑term costs followed by lower but higher‑quality growth.
- For the rest of the world, China deleveraging means fewer growth opportunities. It is unlikely that China will drive another commodity “supercycle,” for example.
China’s focus on deleveraging began in earnest in 2017. After an interruption last year due to the pandemic, it returned in 2021 as a key focus of economic policy. We view China’s deleveraging campaign as a multiyear agenda with the strategic aim of controlling the country’s debt‑to‑gross domestic product (GDP) ratio. It marks a sea change of policy by the Xi Jinping administration that will impact the Chinese domestic economy and financial markets significantly in the years ahead. It is also a relevant theme for international investors given the importance of China to the global economy, with a broad potential to impact asset classes and regions, especially in Asia.
In this Insights, we look at the origins of China’s debt issues, why Beijing came to regard deleveraging as a critical objective to be pursued even at the cost of lower economic growth, and assess the progress that is being made. In analyzing deleveraging, we focus both on the financial system, such as the commercial banks and shadow banking, and on end borrowers, particularly government‑related entities (GREs) such as state‑owned enterprises (SOEs) and local government financial vehicles (LGFVs).
Text BoxAmong private sector borrowers, we consider the property sector, which came under the spotlight following liquidity problems and financial stresses at several highly leveraged residential developers that led to several defaults in the offshore USD bond market. Having examined the impact of deleveraging on China’s financial system, we briefly consider its macroeconomic implications, such as slower growth, higher domestic savings, and larger external surpluses.
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