China to invest debt in 'good assets', as deficit hits record high

Chinese Finance Minister Lou Jiwei at a National People's Congress press conference in Beijing on March 7.
Chinese Finance Minister Lou Jiwei at a National People's Congress press conference in Beijing on March 7. PHOTO: AFP

Amid a record high deficit this year, China will follow the "golden principle" of ensuring that its debt is invested in good assets, Finance Minister Lou Jiwei pledged, even as he played down fears that the country's rising debt load could derail already weakening growth in the economy.

While he acknowledged that overall debt had climbed - partly due to stimulus spending during the 2008 global financial crisis - Mr Lou said the government is still able to finance its deficits.

China set a budget deficit of 3 per cent of gross domestic product (GDP) this year - the highest since 1979 - in a bid to boost growth as expansion last year, at 6.9 per cent, slowed to its weakest in 25 years.

"Fiscal revenue growth is lower than GDP growth... but does that mean we don't have room to run a deficit? No, what is most crucial is how the deficit is being spent," he said yesterday on the sidelines of China's annual legislative session.

"You should not pay for your meals with borrowed money... but borrowed money can be used to buy a house, with the future income you earn used to pay (the mortgage) off... this is the bottom line we maintain in preventing risks."

Mr Lou said China could still moderately increase its deficit-to-GDP ratio, although not by too much. Government debts at 11 trillion yuan (S$2.3 trillion), or the equivalent of 40 per cent of GDP, are "not very high" relative to other comparable economies, he pointed out.

Policymakers had previously pledged to raise the efficiency of government investment, which should in theory produce better economic gains without worsening China's huge pile of non-performing loans.

But analysts are sceptical about China's ability to do so. Already, credit ratings firm Moody's downgraded its outlook on Chinese government debt to "negative" from "stable" last week, citing uncertainty over the authorities' ability to implement economic reforms, rising government debt and falling reserves.

A total of 5 trillion yuan of local government debt, for instance, is due this year, while the outstanding amount of such debt stood at 16 trillion yuan at the end of last year.

But Mr Lou said the debt issue is "not a big problem" as Beijing will continue allowing local governments to swap high-interest local debt for cheaper bonds as part of a refinancing plan over the next few years. He cited two other areas as problems instead. First, as the economy slows, contingent liabilities from existing debts could rise for local governments. Second, debts are at times cloaked in other forms, such as public-private partnerships, and need to be properly regulated.

"But... if we control these debt-related risks, it will not severely hurt the economy," he said. He also dismissed fears of rising non-performing loans in domestic banks, which some warn could carry systemic risks, noting that their levels were expected to rise only "mildly".

UOB's China economist Suan Teck Kin said Beijing's efforts to defuse the local debt problem have made headway, adding that the debt-swap has relieved some of the financial stress on local banks while new debts are more closely scrutinised.

Mr Lou also announced plans to revamp China's personal income tax system to include deductions such as mortgage interest as part of a push to make consumption a key growth engine. A draft plan to overhaul the system has been submitted for the State Council to review and a draft law will be submitted to the legislature this year, he revealed.

He said business tax in all industries will be replaced by value-added tax before May, a concrete step in deepening fiscal and tax reform.

But he also criticised China's labour laws as harming workers by reducing job opportunities. The labour contract law passed in 2007 restricts firms' ability to fire workers, which has pushed factories offshore and created a deficit of skilled workers, he said in frank comments.

A version of this article appeared in the print edition of The Straits Times on March 08, 2016, with the headline 'China to invest debt in 'good assets', as deficit hits record high'. Print Edition | Subscribe