China’s Credit Rating

In the news on radio this morning, I heard that the S&P Global ratings cut China’s sovereign credit rating due to the risk in her rising debt profile. This is the first time since 1999 that China’s rating has been adjusted. The previous rating of AA- was cut to A+. The rating change is an indication that the economic and financial risks of the country has increased following a period of strong credit growth. According to the ratings it still means that China has a strong capacity to meet its financial commitments, but is somewhat more susceptible to an adverse effect of a change in circumstances and economic condition than previously. Statistics show that China’s total non- financial sector debt reached 235 percent of GDP in 2016 and IMF projects that China’s total non-financial sector debt would reach around 290 percent of GDP in 2022. With a debt profile of that size, there is little wonder why S&P is alarmed and had to revisit their rating.

To back up their rating, S&P stated that China’s deleveraging process was occurring more slowly than expected, with Lending by financial institutions starting to rise. Argument for the new rating by the S&P is that the Chinese government is heavily regulating the market and are not allowing for efficient deleveraging as the effect of a deleveraging might have an increasingly painful effect on debtors as they are left to feel the pain of failure of losses that come with the default on asset payments. Inevitably, from the deleveraging process, some firms and governmental entities would lose access to easy money.

The Chinese government are not allowing the market forces to come to play freely, there is reluctance of the Chinese government to allow firms default on asset payment or to file for bankruptcy. Also asset securitization products are under heavy scrutiny by the regulators for increased levels of risk.

To see improved rating for China, deleveraging has to occur faster and best under market forces. Though the process might be painful to debtors, it is needed in order to reduce the total debt profile of China. However, this would not just happen immediately as regulators need to put in place additional regulations that would see to a smooth transitioning from a predominantly government controlled market to one that allows for market forces.