China banks may need S$2.3 trillion injection as credit quality worsens: S&P

A man walks past the headquarters of the People's Bank of China, the central bank, in Beijing on Nov 20, 2013.
A man walks past the headquarters of the People's Bank of China, the central bank, in Beijing on Nov 20, 2013. PHOTO: REUTERS

HONG KONG (REUTERS) - Rising debt levels will worsen the credit profiles of China's top 200 companies this year, requiring the country's banks to raise US$1.7 trillion (S$2.34 trillion) in capital to cover a likely surge in bad loans, S&P Global said in reports published on Tuesday (Oct 11).

The study sees little scope for improvement in 2017 amid worsening leverage and substantial excess capacity in almost all sectors. Seventy per cent of the companies surveyed were state owned, comprising 90 per cent of the sample companies' debt.

The rating agency estimated the problem credit ratio at Chinese banks was 5.6 per cent at the end of 2015. In a downside scenario of unabated credit growth, that ratio could worsen to 11 to 17 per cent.

In such a situation, banks would need as much as US$1.7 trillion in recapitalisation funds by 2020. Even under a base case scenario, they would require US$500 billion.

S&P expects China's government to continue to allow rapid credit growth over the next 12 to 18 months before attempting to rein it in, implying that risks would heighten in one to two years' time.

Debt has emerged as one of China's biggest challenges, with the country's total debt load rising to 250 per cent of GDP.

Excessive credit growth in China is signalling an increasing risk of a banking crisis in the next three years, the Bank of International Settlements (BIS) warned recently.

The IMF has warned China its credit growth is unsustainable, with corporate borrowers sitting on US$18 trillion in debt, equivalent to about 169 per cent of gross domestic product(GDP).

On Monday, Beijing announced a series of guidelines aimed at cutting company debt levels which some fear could destabilise the world's second largest economy.

Encouraging mergers and acquisitions, bankruptcies, debt-to-equity swaps and debt securitisation are some of the measures intended to improve credit allocation and stop wasteful spending in the economy.

"We expect further deterioration in the credit strength of state-owned enterprises as they continue with their debt-funded expansion," S&P Global's report said. "High leverage in corporates will likely constrain investments and aggregate demand."

A Reuters survery showed profits at roughly a quarter of Chinese companies were too low in the first half of this year to cover their debt servicing obligations, as earnings languished and loan burdens increased.

But privately owned companies in China were turning around as cost controls and reductions in capital expenditure had eased pressure on their cash flows, S&P Global's report said, highlighting the contrast in performance versus state-owned enterprises (SOEs).

As a result, SOE's median leverage, at about six times as of the end of 2015, was about twice the level for private sector entities.

"The divergence in credit risks between SOEs and private sector companies will therefore continue to increase," it said.