31 Aug 2017
As I've written before, China has a debt problem; however, given the magnitude of the issue, concern does not appear to be widespread.
Read why Chinese residential property developer debt is at critical levels
The main argument for why China's debt isn't something to worry about is that Chinese households save a large portion of their incomes. The logic behind this is that households will be able to save less and spend a greater amount, allowing for consumption to be the main driver of growth for an economy that traditionally has been overly dependent on investment.
However, there is a flaw in this argument, as Professor Michael Pettis of Peking University explains:
It is not at all the case that at roughly 50% of GDP, China has the highest savings rate in the world, and the lowest consumption rate, which is the same thing because when the average Chinese worker receives his Renminbi (RMB) 100 paycheck he immediately puts half of it into his bank account. The average worker of course puts in a lot less than that, and more importantly, it isn't the average worker that drives China's high savings rates. The reason China has the highest savings rate in the world is because when the average Chinese worker produces RMB 100 worth of goods and services, he only gets a paycheck of roughly RMB 50, of which roughly RMB 15 is put into his bank account. The rest of the roughly RMB 35 in savings has nothing to do with household saving and instead comes from businesses and government entities.
The stereotype of the "Chinese saver" is based on corporate and government savings rather than households. As the chart below shows, the savings of Chinese corporations have dwindled as growth has slowed. This comes as the gap between loans and deposits have increased, indicating that these deposits have less capacity to stimulate productivity.
China corporate loan-deposit gap
The likelihood that these savings will be able to spur growth is minimal at best. Furthermore, it appears that the household balance sheets are not as healthy as they once were.
Households feeling the pressure
Something that characterised the Chinese economy in 2016 was a surge in mortgage lending. The chart below illustrates this; medium and long-term lending in China is a proxy for mortgages. Although this has come off somewhat at the beginning of 2017, it remains elevated, while short-term lending has risen rapidly.
China households short and long-term loans
This is indicative of Chinese households being less able to absorb longer-term debt taken on in 2016. The productivity of these short-term loansis also questionable, as new household deposits so far in 2017 are on track to decline for the first time since data became available, as shown in the below chart, and suggests that at least a portion of this short-term lending is being used to pay off existing debt (something there is already evidence of in the corporate sector).
China household loan-deposit gap
There is growing evidence that Chinese policymakers are attempting to "deal" with debt by shifting it from corporate balance sheets to households. The chart below shows that , starting from 2016, households have now absorbed the majority of new lending.
Share of total new loans to corporates, households
However, this doesn't address the underlying issue of excessive leverage; policymakers are only moving debt around rather than addressing it. Furthermore, the increasing gap between household loans and deposits as well as the spike in short-term lending to households suggests that household balance sheets are already having some difficulty absorbing corporate debt.
A similar situation played out in Japan in the late 1980s. The Japanese government failed to confront excessive corporate debt and gradually moved it from corporate balance sheets to households, before ultimately having to absorb debt onto government balance sheets. The result was a drain on productivity that stalled economic growth for more than two decades.
Although China has not yet fully committed itself to the same fate as Japan, its day of reckoning is approaching. Chinese debt has accumulated at a much faster pace than it did in Japan and China's policymakers will be forced to confront the debt issue as cracks in property developer's balance sheets begin to emerge from mid-2018. As I've written previously, policymakers can either do this directly and risk financial insability, or risk a slow-burn that will eventually drag growth to zero.
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