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S&P downgrades China's rating, citing increasing economic, financial risks
September 21, 2017 / 9:58 AM / 3 months ago

S&P downgrades China's rating, citing increasing economic, financial risks

BEIJING (Reuters) - S&P Global Ratings cut China’s long-term sovereign credit ratings by one notch to ‘A+’ from ‘AA-’ on Thursday, saying its prolonged period of strong credit growth has increased its economic and financial risks.

The outlook on China's long-term rating is stable, S&P said. bit.ly/2fdva4Y

The move puts S&P’s ratings in line with those of Fitch and Moody‘s.

KEY POINTS

* S&P says China’s prolonged period of strong credit growth has increased its economic and financial risks

* Says stable outlook reflects view that China will maintain robust economic performance and improved fiscal performance in the next 3 to 4 years

* Says China’s credit growth in the next two to three years will remain at levels that will increase financial risks gradually

* Expects China’s per capita real GDP growth to stay above 4 percent annually, even as public investment growth slows further

* Says recent intensification of Chinese government efforts to rein in corporate leverage could stabilize trend of financial risk in medium term

COMMENTS:

CLAIRE DISSAUX, HEAD OF GLOBAL ECONOMICS AND STRATEGY AT MILLENNIUM GLOBAL INVESTMENTS, LONDON

”The debate around China is that its huge FX reserves were offsetting private sector credit leverage and that was the argument underpinning the good sovereign rating for China. That argument has become less valid as the balance of payments is less solid and you can no longer argue its strength is fully offsetting internal leverage.

“China’s credit problem is the biggest problem we have ever seen in any country and probably justifies a lower rating. Also one element that models cannot capture is the strength of institutions, such as transparency of regulation of the banking sector and central bank independence. All that is an argument to say China’s rating might still be too good.”

LOUIS KUIJS, OXFORD ECONOMICS, HONG KONG

”It is in recognition of the reality that concerns notwithstanding the authorities are not planning to rein in credit growth in a forceful way.

”In the eyes of Beijing there are risks to this continued credit growth but they are manageable, from their perspective, and so any realistic projection for China has to feature that aspect that we still see that there is a lot of talk in Beijing about deleveraging, but that’s a very specific kind of deleveraging.

”It’s not really the kind of deleveraging that Moody’s or S&P or I would say is deleveraging, but Beijing says that they are deleveraging. They are deleveraging specific parts of the financial system...

”I, personally, think that they are not with their back against the wall. They have some room for maneuver. They can continue to do what they are doing for another few years. There are some buffers which they have which will prevent a systemic meltdown. The problem is that it looks like Beijing also knows that and is willing to push the envelope a bit, and feels that with micromanagement – with deleveraging this part, deleveraging that part – we can ride this out longer than otherwise.

”Most likely, if China doesn’t change its approach on this then you will see a gradual step by step worsening of those ratings in the coming years.

“I personally think that they should rein in credit growth more forcibly. Basically, China is still a reasonably vibrant economy, meaning that if you stop pumping it up with unnecessarily high credit growth it will still grow decently.”

ZHENG LIANGHAI, BOND ANALYST AT DONGXING SECURITIES, SHANGHAI

”You cannot use standards in a developed, fully market-oriented economy, to rate China, which has its unique growth model and political structure. For example, a local government could be bankrupt by western standards, but in China, it won’t happen, with central government with concentrated power.

”Although it’s possible the overall debt level remains high, the point is that structurally, China’s debt situation is getting better. You cannot reduce debt everywhere, and create a new financial crisis in the progress deleveraging.

“The yuan is not freely convertible. So you cannot flee China even if you want to. But if you look at the yuan’s strength this year, anyone who is bearish on China would suffer.”

KHOON GOH, HEAD OF ASIA RESEARCH, ANZ, SINGAPORE

”S&P’s decision today to downgrade China’s sovereign rating outlook to A+ from AA- is no surprise. S&P had put China on negative outlook in March 2016, and in June this year, S&P had already flagged that there was a real chance of a downgrade.

”This move brings S&P’s rating in line with Moody‘s, which downgraded China to A1 from Aa3 in May. So now all three major ratings agencies have China on similar ratings with stable outlook. Shouldn’t be much impact judging from the market reaction following the Moody’s downgrade a few months back. China’s domestic bond market is largely onshore driven.

“RMB should remain stable on a basket basis, with USD/CNY to be driven by dollar moves. With a more hawkish Fed, we will likely see USD/CNY move to a 6.60-6.70 trading range over Q4.”

CARLOS CASANOVA, ECONOMIST FOR ASIA PACIFIC REGION, COFACE, HONG KONG

”The assessment reinforces our Country Risk Assessment for China. We lowered our internal rating in June last year. At B, it remains amongst the lowest in Asia and behind that of Malaysia, Indonesia and India. Our Country Risk Assessment is a measure of corporate credit risk, and so affects mainly corporates. This is different to a sovereign rating. Of course, S&P’s decision will have implications on China’s corporates, as their ratings are capped by the sovereign rating.

“S&P’s decision also highlights our concerns surrounding China’s corporate debt levels. Additional liquidity has led to the formation of imbalances, including a housing bubble and mounting corporate debt. The surge in liquidity can be traced back to 2008, when the Chinese authorities embarked on a massive stimulus package, estimated to be RMB 4 trillion (USD 650 billion), in a wide-ranging effort to offset adverse global economic conditions and boost domestic demand. Corporate debt warrants the most attention, as it currently stands at approximately 200 percent of GDP, a very high level by international standards.”

“Credit risks are a cause of concern, especially as high corporate indebtedness will have an impact on growth. Compounded with overcapacity concerns in certain sectors, this should act as a drag on profits going forward. Overall, we see defaults increasing in 2017, especially if the authorities return to a tightening bias following from the October meetings.”

MARK WILLIAMS, CHIEF CHINA ECONOMIST, CAPITAL ECONOMICS, LONDON

“They’re playing catch-up, but the risks that they’re talking about are real ones and they are risks that investors have been considering for quite some time.”

“I suspect the impact would be very, very small. Nobody looking at China is unaware of the fact that the credit growth has been very fast over the past few year and adding to economic and financial risks.”

“You don’t need a ratings agency to tell you that this trend is unhealthy.”

ROB SUBBARAMAN, ECONOMIST AT NOMURA, SINGAPORE:

”Given the S&P downgrade matches the cut by Moody’s earlier this year, I don’t expect much market reaction.

”That said, just ahead of the 19th CPC, the downgrade is a timely reminder for the authorities China needs to bite the bullet on some of the more painful reforms that have been left to last, namely corporate deleveraging and SOE restructuring.

“The focus needs to shift from quantity to quality of growth. I hope that later this year China lowers its GDP growth target to 6-6.5 percent, or not have one at all. That would be a positive sign.”

RICHARD BRIGGS, SENIOR ANALYST, EMERGING MARKETS STRATEGY AT CREDITSIGHTS IN LONDON:

”S&P had said at the start of the year that they would downgrade over this year. And it’s the last agency to basically go with the high single-A. So I mean it’s not a huge shock. Even the Moody’s downgrade last time didn’t have a huge impact on spreads. So I think, I’d say -- well, it sort of looks interesting on a headline level, but I think it’s got a limited impact for spreads...

”I doubt it’s going to come as much of a surprise. If a sovereign’s going down to high yield or something it usually has an impact, but they’re downgrading effectively because of longstanding problems which everybody knows is there, the very rapid credit growth.

“In terms of the sovereign issue, it’s obviously a dollar sovereign issue and China’s external position is still extremely strong. So... it’s not going to have much of an impact. If they want to issue, they’ll issue, definitely.”

IRIS PANG, GREATER CHINA ECONOMIST, ING, HONG KONG

”Corporate credit as a percentage of GDP was 170 percent in February and in August it was 166 pct. Total credit was 262 percent in February and was down to 258 percent of GDP in August. I actually don’t think S&P was ... reasonable.

“Why didn’t they cut the ratings in February?”

“The impact will be very negative on Chinese sovereign bonds. China was trying to attract more foreign investors to its onshore bond market.”

BACKGROUND

- China’s economy has surprised global financial markets and investors by rebounding more solidly than expected so far this year, driven by a renaissance in “smokestack” industries such as steel, a rebound in exports and strong growth in the services sector.

- But analysts say the economy still remains too reliant on debt to drive growth, with bank lending on track for another record year this year and the government ramping up stimulus spending.

- Top leaders have pledged to reduce risks from the rapid build-up in debt, accumulated in large part due to heavy spending in the past to meet official government economic growth targets

- But analysts say China’s campaign to reduce financial risks this year has had mixed success so far, and opinions differ widely on whether Beijing is moving quickly enough or decisively enough to avert the risk of a debt crisis down the road.

- Regulators are making significant inroads in reducing interbank borrowing – perhaps the most pressing risk - and have curbed some riskier types of shadow banking.

- However, China’s economy still remains heavily reliant on credit, and analysts agree more comprehensive structural reforms are needed. Though the pace of credit growth may be easing, new bank lending and total social financing may hit fresh records this year and continue to outpace economic growth.

- A recent Reuters analysis showed corporate debt is growing faster than last year, with few companies using stronger profits to reduce debt.

Reporting by Reuters Asia bureaus; Compiled by Asia Desk; Editing by Kim COghill and Jacqueline Wong

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