China’s debt levels are perilously high and have swollen such as to constitute a considerable threat to the country’s economic and financial stability – of this there can be little doubt. At over USD 29 trillion, China’s mountain of debt is the second highest in the world, with the debt ratio running at more than 250 percent, immense for an emerging economy, and its rise by over 100 percentage points over the last decade is gigantic. It is no coincidence that the IMF and BIS have for some time been drawing parallels to countries whose excessive debt eventually ended in crises: Japan in the 1980s, Thailand in the 1990s or Spain after the turn of the millennium. China could likewise be heading for a crisis.
What is above all critical is the high corporate sector debt, which at over 160 percent of gross domestic product (GDP) is quite unprecedented the world over. Behind this, and to a not inconsiderable degree, is unsound, “hidden” government debt: state-owned corporations whose debt level is roughly twice as high as that of the purely private corporations and whose earnings power tends toward zero. Beijing is artificially keeping industrial outfits alive that without subsidized loans from government banks would long since be insolvent. Then there are dubious special purpose entities that have taken up loans on behalf of provincial governments. And over all of this hovers the pending threat of a completely overpriced property market. If this bubble bursts it would affect large parts of the economy, as almost half of the loans are directly or indirectly linked to the property market. A toxic mix.
It is hard to predict whether China will actually drift into crisis, let alone when. The risk is anything but minor, however. In the final instance, a correction in house prices, a downturn in the economy, or the collapse of a major corporation could set off a whole wave of loan defaults.
So what does that mean for the global economy? Various factors speak against China being threatened with a second “Lehman moment”, as some have feared. Beijing probably has good chances of averting a systemic financial crisis: The central government has deep pockets, its debt levels are modest at around 50 percent of GDP, and it hardly depends on foreign creditors. It could sufficiently capitalise banks and even catch private corporations before they tumble, as now with insurance company Anbang, and would no doubt do precisely this. The risks of the global financial system becoming infected are likewise constrained, as the Chinese banks do not have strong international links. What is more problematic are the now countless global investments by highly indebted Chinese corporations, such as the completely opaque HNA Group. If these shareholders bellied up, it could mean that German companies in which such Chinese corporations are shareholders might come under pressure.
At any rate, China’s economy is unlikely to be able to withstand the strain that upheavals in the banking sector would create, and this would then be felt the world over. In other words, the problematic issue of China’s debt constitutes a quite considerable economic risk, and not just for the country itself. As a consequence, the current prime global economy could really come a cropper, too.