1 CCP unlikely to shift stance despite US diplomatic overtures
The Biden administration recently appeared to signal that it is still looking to “thaw” tensions with the PRC, including:
June 8
CNN reported that U.S. Treasury Secretary Janet Yellen told the board of the U.S.-China Business Council in a closed-door meeting that the “U.S. economic approach to China remains focused on not just seeking cooperation on the climate crisis and other global challenges but trying to get China to play by the rules of international trade and addressing national security and human rights issues.” The council’s board includes the CEOs of Ford, FedEx, Pepsi, and Walmart.
The U.S.-China Business Council told CNN that they also heard from PRC ambassador Xie Feng after Yellen spoke.
June 9
Reuters reported that U.S. Secretary of State Antony Blinken would be in Beijing on June 18 for talks, citing a U.S. official.
June 8 – June 11
On June 8, The Wall Street Journal reported that the PRC had agreed to pay Cuba several billions of dollars to build an electronic eavesdropping station on the island, citing officials familiar with the matter. The Journal said that the facility would allow “Chinese intelligence services to scoop up electronic communications throughout the southeastern U.S., where many military bases are located, and monitor U.S. ship traffic.”
White House National Security Council spokesman John Kirby said that the report is “not accurate” without offering any details. He added: “We remain confident that we are able to meet all our security commitments at home and in the region.”
On June 11, said in a statement reported by several news outlets that the PRC spy base in Cuba is “an ongoing issue, and not a new development” and the arrangement as characterized in the Journal’s reporting “does not comport with our understanding.”
The statement added that the PRC “conducted an upgrade of its intelligence collection facilities in Cuba in 2019” and this is “well-documented in the intelligence record.”
The statement also noted Beijing’s continued challenges with activities in Cuba and added that “we think the PRC isn’t quite where they had hoped to be.”
Cuba’s Embassy in Washington said that the Journal’s report was “totally mendacious and unfounded information” while the PRC embassy had no comment.
When asked about the PRC spy base in a press conference on June 12, Secretary Blinken said, “Our experts assess that our diplomatic efforts have slowed down this effort by the PRC.”
June 13
Speaking at a House Financial Services Committee hearing, U.S. Treasury Secretary Janet Yellen said, “I think we gain and China gains from trade and investment that is as open as possible, and it would be disastrous for us to attempt to decouple from China.”
Yellen also said, “I certainly do not think it is in our interest to stifle the economic progress of the Chinese people. China has succeeded in lifting hundreds of millions of people out of poverty, and I think that’s something that we should applaud.”
June 14
The State Department confirmed that Secretary Blinken would visit China from June 18 to June 19 and will meet with senior officials in Beijing.
Speaking to reporters about Blinken’s China trip, U.S. National Security Council Coordinator for the Indo-Pacific Kurt Campbell said, “We have an interest in setting up crisis communication mechanisms to reduce conflict risk … So we will seek to manage the competition and work together where our interests align from a position of confidence in ourselves and in the importance of consistent, clear, and high-level communication with other great powers.”
***
Concurrently, the Biden administration continues to warn about and take action to counter the CCP threat, including:
June 12
1. The Biden administration added 43 entities to an export control list, including Frontier Services Group Ltd and the Test Flying Academy of South Africa. The Test Flying Academy of South Africa came under scrutiny by the UK authorities for recruiting British ex-military pilots to train PRC military pilots, while Frontier Services Group is a security and aviation company that trains PRC military pilots and carries out other activities that threaten U.S. national security.
Other companies added to the list had acquired U.S.-origin items in support of the PRC’s military modernization, including hypersonic weapons development and hypersonic flight modeling. Two companies were added for enabling the PRC’s human rights abuses in Xinjiang.
2. Cybersecurity and Infrastructure Security Agency Director Jen Easterly said in an appearance at the Aspen Institute in Washington that Beijing was making major investments in the capability to sabotage U.S. infrastructure and this is “the real threat that we need to be prepared for, and to focus on, and to build resilience against.”
She also said, “Given the formidable nature of the threat from Chinese state actors, given the size of their capability, given how much resources and effort they’re putting into it, it’s going to be very, very difficult for us to prevent disruptions from happening.”
Background
The U.S. and its allies called for “de-risking, not decoupling” from China at the G7 meeting in Hiroshima while President Biden said that Sino-U.S. tensions are going to “thaw very shortly.”
Our take
The CCP has indicated through its propaganda response to the West’s “de-risking” stance, Xi Jinping’s assessments of the PRC’s national security situation and preparations for external crises to worsen (see here, here, and here), and assertive military maneuvers that it does not trust the U.S. to “engage” with China as it did before President Donald Trump took office. If anything, Beijing believes that the U.S. and its allies are bent on “containing, encircling, and suppressing” the PRC regardless of the latter’s efforts at “engagement” and is unlikely to make serious concessions or properly align itself with the West’s agenda on various “global challenges.”
Xi and the CCP could consider making minor “compromises” if the U.S. removes advanced chip restrictions, does away with the Trump administration’s tariffs, backs off U.S. support for Taiwan, and essentially abandons entirely efforts to “de-risk” from China. But the Biden administration will be hamstrung in offering substantial concessions to Beijing given the strong “anti-China” mood in Congress, as well as with the international community increasing awareness of the PRC threat and becoming more willing to take action to counter the communist regime. The administration itself is still taking action against the PRC, and those actions will further convince Beijing that the U.S. is not serious about “thawing” the Sino-U.S. relationship despite the latter’s intensive diplomatic efforts.
What’s next
Heightened Sino-U.S. tensions will be the norm, and not the exception, as long as Beijing and Washington prioritize national security interests above economic benefits. Businesses, investors, and governments must account for rising political risks in China and the PRC’s growing geopolitical risks in their China plans.
2 Local governments try to pass the buck and delay debt crisis
On June 4, the Guangxi Provincial Development and Reform Commission solicited public opinion on the local government’s investment management measures (廣西壯族自治區政府投資管理辦法; henceforth referred to as the “Measures”). Of the 46 articles in the Measures, those dealing with the Guangxi government’s debt risk prevention and control attracted attention:
1. Article 5 of the Measures put forward the requirement that local government investment should be in line with the level of local economic and social development, as well as the government financial situation. Details include:
- Strengthen investment projects’ risk prevention and control; organize and carry out financial viability and debt risk assessments when required; and effectively prevent debt risks in the field of government investment.
- Strictly prevent government debt risks. With the exception of projects explicitly required by the state or the autonomous region (i.e. Guangxi Province) and emergency rescue and disaster relief projects, no new projects shall be started next year in areas where the government debt ratio exceeds the 300 percent threshold or debt risk events emerge. Approval must be sought from higher-level government if there is a need to press ahead with projects in the aforementioned areas.
- Local governments at all levels in Guangxi shall not raise government investment funds through various means of illegal debt borrowing, shall not arrange for the construction of projects that exceed the financial capacity of the local government at that level, and are strictly forbidden from starting the construction of projects whose sources of funding have not been confirmed.
- Government investment projects that really need to issue bonds for funding are only allowed to do within the debt limits of the local government at that level, and incurring new local government implicit debt is strictly prohibited.
- Local governments at all levels in Guangxi shall not promise fixed returns, minimum returns, bear the loss of principal and buybacks, etc. when using franchising, equity cooperation, the establishment of government investment funds, and other modes of support to raise funds for project construction.
- With the exception of PRC State Council-approved on-lending of loans from foreign governments or international financial organizations, local governments in Guangxi shall not provide any kind of guarantee for the financing of projects and shall not underwrite debts incurred by the investment projects.
- In addition to the responsibilities that lower-level local governments should bear, those governments shall not covertly increase or transfer their expenditure responsibilities to other lower-level local governments.
2. Article 15 of the Measures restricts local governments at all levels in Guangxi from financing or investing in projects through state-owned enterprises. Details include:
- Local governments shall not instigate or use administrative means to hand over government invested projects that should be funded by fiscal budget funds and have no operating income to state-owned and state-controlled enterprises for financing and construction.
- Local governments shall not convert investment promotion projects into government investment projects through state-owned and state-controlled enterprises in violation of regulations.
- Local governments shall not implement investment decisions in state-owned and state-controlled enterprise projects that have not fulfilled investment compliance procedures.
- Local governments shall not carry out debt or covert financing through state-owned and state-controlled enterprises.
- Local governments shall not provide guarantees or promises of repayment in any form for financing state-owned and state-controlled enterprises.
Local governments are not allowed to commission state-owned and state-controlled enterprises to implement construction projects whose funding sources have not been confirmed.
No new state-owned or state-controlled enterprises with government financing functions as their main functions shall be established; new government financing platforms are strictly prohibited; and (incurring) new implicit government debts shall be strictly prevented.
The Article also restricts state-owned and state-controlled enterprises in their foreign investments and financing:
- State-owned and state-controlled enterprises shall not undertake excessive borrowing that is “divorced from reality.”
- State-owned and state-controlled enterprises shall not invest in projects whose returns do not fully cover the cost of financing.
- State-owned and state-controlled enterprises that carry out debt financing shall take the initiative to declare that they do not undertake government financing functions, that the debt raised is corporate debt, and that the local governments will not be responsible for servicing the debt.
- Per the principle of “he who borrows is responsible” (誰舉債、誰負責), SOEs are responsible for cleaning up and disposing of their own debt and local governments are not responsible for debt repayments.
Guangxi’s economy and debt situation
According to mainland media reports and other publicly available information, Guangxi’s economy and finances rank at the middle to lower level nationally, while its debt ratio is at the middle to upper level.
In 2022:
- Guangxi’s GDP increased 2.9 percent year-on-year to 2.63 trillion yuan, ranking 19th in the country.
- Guangxi’s general public budget revenue decreased 6.2 percent year-on-year to 168.772 billion yuan and its general public expenditure increased 1.5 percent year-on-year to 589.389 billion yuan. In other words, Guangxi’s spending was 3.5 times greater than its income.
- The Guangxi government’s generalized debt ratio [(local government debt + urban investment interest-bearing liabilities)/comprehensive financial resources] was 399.16 percent, a figure much higher than the national average. Guangxi ranks fifth among the provinces in terms of areas with the highest debt burden.
Hunan debt risks and economic situation
On June 6, the state-run Hunan Daily reported the remarks of Hunan provincial Party secretary Shen Xiaoming on debt risks made during a special training class for the Hunan provincial Party Committee and provincial government.
Shen said:
- No matter how much financial resources the Hunan local government has, must live within its means and not “overdraft the future” (透支未來).
- The boundaries between the government and the market must be clarified; the government financing functions of local government financing vehicles (LGFVs) must be “resolutely divested”; and illegal borrowing and covert fund-raising must be “seriously investigated and dealt with.”
- Officials must adhere to “new officials managing old accounts” (新官理舊賬, i.e. current officials have to be responsible for dealing with the debts of their predecessors), as well as curb new debts and reduce existing debts.
- Officials must resolutely prevent “passing the parcel” (擊鼓傳花, i.e. a Chinese saying akin to “playing musical chairs”) to avoid the spread and transmission of (financial and debt) risks.
- Officials must firmly establish the idea of “belt tightening” (過緊日子), strengthen hard constraints on the government budget, and spend every penny on the “knife’s edge” (刀刃上; i.e. spend every penny wisely)
***
In 2022:
- Hunan’s GDP grew at 4.5 percent (a relatively high rate of growth) year-on-year to 4.867 trillion yuan, ranking ninth among China’s 31 provinces and provincial-level administrations.
- Hunan’s general public budget revenue decreased 4.58 percent to 310.180 billion yuan, ranking 15th in the country. Hunan’s general public budget expenditure increased 8.17 percent to 900.530 billion yuan, ranking 12th in the country in terms of growth rate. Hunan’s financial self-sufficiency rate was 34.44 percent, ranking 21st in the country (a relatively low level).
- Hunan’s debt ratio was 244.70 percent, ranking 17th in the country.
LGFV rapid consolidation
Bloomberg News reported on June 9 that LGFVs in China have been “merging and reshuffling assets among themselves at record speed” as the authorities “seek to use consolidation to help ease debt pressure and improve fundraising.”
Bloomberg wrote that LGFVs were involved in 240 deals including mergers and asset transfers between January and May 2023, or more than double year-on-year, according to calculations based on Essence Securities Co.’s LGFV consolidation monthly report. The 240 figure is also the highest for the period since 2010 when Essence Securities began tracking the data.
Backdrop
Signs of severe local government financial and debt problems have emerged continuously since the start of the year (see here, here, here, and here). Beijing recently attempted to downplay the situation, a development which underscores the seriousness of those financial and debt risks.
Our take
1. Guangxi’s local government investment management measures and the Hunan Party secretary’s remarks on debt risks are more indications that the local government debt problem in China is very serious.
Through the gestures listed above, the Guangxi and Hunan officials are signaling to the central government that they are hard at work “doing something” (有所作為) instead of “lying flat” (躺平) in addressing their respective debt risks. Should their debt risks be triggered further down the road, the Guangxi and Hunan leading cadres can explain to their superiors that they had already given their best in fixing the situation and shift blame to their predecessors for having accumulated those debt risks and “passed the parcel” to them.
2. The Guangxi Measures and Hunan Party secretary’s remarks indicate that their respective debt issues are long-term problems and local governments have no choice but to stack risk on top of risk to address some of those issues.
For instance, the Guangxi Measures prohibit the construction of new projects in areas where the government debt ratio exceeds the threshold of 300 percent, or a threshold that is much higher than the 100 percent to 120 percent line used internationally. The 300 percent figure suggests that there are many local governments at various levels in Guangxi whose debt ratios are lower than 300 percent but higher than the 100 – 120 percent threshold. Put another way, the Guangxi provincial government is allowing heavily indebted local governments to expand their debt risks further; it cannot be ruled out that local governments in Guangxi could attempt to “minimize” their debt risks by “transferring” them to the banks in a manner similar to what happened with Kunming LGFVs.
Meanwhile, the Guangxi provincial government’s investment restrictions on lower level local governments and state-owned enterprises indicate that those entities have been investing in a reckless and highly risky fashion for some time. As such, the debt risks of those entities are now close to being triggered or have already been triggered (i.e. they are in technical default like LGFVs in Kunming), and the Guangxi provincial government has no choice but to create new regulations to limit the damage and shirk responsibility later.
3. Local governments in the PRC will find it extremely challenging to resolve the debt woes given that they are long-accumulated and under the current state of the Chinese economy. Despite talk of having “new officials manage old accounts,” the incumbent local officials in Guangxi, Hunan, and other troubled areas are bound to allocate the limited resources at their disposal to projects that pad their political “achievements” and facilitate corruption instead of making earnest attempts to fix the mess left behind by their predecessors. Hence, the debt risks of local governments are likely to only accumulate further, ultimately placing the burden on the shoulders of the central Xi leadership.
What’s next
Local government debt woes will become increasingly public and obvious. Local officials could attempt to imitate each other on the propaganda front to show that they are actively addressing the issue, but will likely have limited capacity to actually resolve their financial and debt problems.
When some area inevitably has to publicly default on its debt, other areas could do so as well, resulting in a concentration of defaults. In this scenario, local officials will likely adopt the mentality of “the law does not punish numerous offenders” (罪不責眾, i.e. a crime is not a crime when everyone does it) and thus compel Beijing to deal with the resulting risks.
