1 PRC authorities admit to signs of financial crisis spreading
Nov. 8
Pan Gongsheng, governor of the People’s Bank of China, delivered a speech at the opening ceremony of the annual conference of the Financial Street Forum in Beijing. Pan’s speech focused on encouraging the “learning and implementing” of the spirit of the 2023 Central Financial Work Conference, as well as his take on the future of China’s economic development in light of the current economic and financial situation.
Topics covered in Pan’s speech include monetary policy, the prevention of financial risks, and the deepening of financial supply-side reform. Pan also acknowledged that there are signs of a financial crisis spreading in China.
Notable points in Pan Gongsheng’s speech include:
- Pan expressed optimism about China’s economic growth in 2023 and expected the PRC to achieve its annual GDP target of “about 5 percent” growth.
- Pan rehashed relevant key content from the Central Financial Work Conference and outlined some policy directions “for the next stage”:
- Monetary policy will pay more attention to cross-cyclical and counter-cyclical adjustments.
- Maintain reasonable growth in money, credit, and social financing.
- Increase support for major strategies, key areas, and weak links.
- Promote financing for the real economy.
- Keep the renminbi exchange rate basically stable and intervene in the exchange rate market.
- Resolutely correct pro-cyclical market behavior (i.e. domestic institutions are forbidden from shorting the RMB).
- Resolutely deal with behavior that disrupts market order (i.e. the CCP authorities will stop arbitrage operations that look to capitalize on the depreciation of the RMB).
- Resolutely guard against the risk of the RMB exchange rate overshooting and prevent the formation of unilateral consensus expectations and their self-reinforcement (i.e. the CCP authorities does not want domestic institutions to follow the lead of overseas institutions in shorting the RMB and create a vicious cycle where everyone engages in arbitrage operations as they expect the currency to depreciate).
- Pan said that the number of high-risk small and medium-sized banks in China has dropped by half from the peak. Also, the few provinces with a relative concentration of high-risk institutions are formulating and implementing reforms to defuse small and medium-sized bank risks.
- Pan said that China’s real estate market’s boom cycle over the past 20-odd years has already passed and is undergoing major transformation. Also, the risks of companies represented by China Evergrande have become explicit and are spreading across the industry. Pan noted that property-related loans currently account for 23 percent of bank loan balances, of which 80 percent are personal housing loans. However, Pan believes that the spillover impact of the real estate market adjustment on the financial system is “generally manageable.”
- Pan said that the debt level of local governments is at the “mid to lower level internationally” while the central government’s debt burden is “relatively light.” Pan believes that local government debt has two characteristics: First, local government debt is mainly used for infrastructure investment, is generally supported by physical assets, and generates “good positive externalities for local economic development.” Second, most local government debt is concentrated in provinces with larger economies and faster economic growth, and those provinces have the ability to resolve their debt on their own. Pan also said that the PBoC will provide emergency liquidity support to debt-ridden local governments “when necessary.”
- Pan said that the CCP authorities will deepen financial supply-side reform and build a modern financial system with Chinese characteristics. With regard to external liberalization, Pan said that the authorities will “do a good job” concerning the China-U.S. and China-EU financial working groups and promote international financial cooperation.
Nov. 9
Mainland media 21st Century Business Herald reported that the PRC National Administration of Financial Regulation (NAFR) held an “important meeting” that afternoon.
21st Century Business Herald said that its reporter spotted a “light brown bus” stopping at the south gate of the NAFR and saw the directors of local NAFRs disembark before walking hurriedly into the NAFR headquarters in Beijing.
Nov. 10
1. State mouthpiece Xinhua published an exclusive interview Pan Gongsheng, the PBoC governor and director of the State Administration of Foreign Exchange (SAFE), titled, “Adhere to Serving the Real Economy and Guard the Bottom Line on Financial Risks” (堅持服務實體經濟 守住金融風險底線).
Pan told Xinhua that the PBoC and SAFE had “conscientiously studied and implemented” the spirit of Xi Jinping’s speech at the 2023 Central Financial Work Conference, formulated an “implementation plan,” and systematically planned key tasks and ideas for the “next stage.”
Pan then rehashed some of the key relevant content from the Central Financial Work Conference, including how he planned to:
- Uphold Party Central’s centralized and unified leadership over financial work.
- Adhere to providing financial services for the real economy.
- Adhere to the overall coordination for development and security, prevent and defuse major financial risks, and maintain the smooth operation of the financial market.
- Adhere to deepening financial reforms.
- Expand the high-level, two-way opening up of finance.
Pan also listed some specific financial measures that have been and will be implemented in the future.
2. State broadcaster CCTV aired an exclusive interview with Pan Gongsheng titled, “Minister Talks Hot Economic Topics | Real Estate Financing and Local Debt Risks are Manageable on the Whole” (經濟熱點部長談 | 房地產金融與地方債風險整體可控).
When asked whether real estate risks are high, Pan said that they were manageable on the whole.
In responding to whether local debt risks were manageable, Pan said, “The debt scale of some provinces, which carries a certain degree of risk, is also a high priority for the central government.” He added, “On the basis of strictly controlling the financing of new projects, the central government will provide some necessary policy support.”
Our take
1. The above remarks by PBoC governor Pan Gongsheng represent an acknowledgment of sorts by the PRC authorities that China is experiencing a financial crisis and the crisis is worsening. In a manner characteristic of the CCP, Pan sought to “spin tragedy into victory” (喪事当喜事报) and maintain the Party’s “great, glorious, correct” (偉光正) image by also claiming that real estate risks are “generally manageable” and China can still hit the “about 5 percent” annual GDP growth target. Beijing is likely intending through Pan’s remarks to restore the flagging confidence of domestic and foreign investors in China’s financial sector and talk up the PRC authorities’ ability to “manage” the brewing crisis.
Some of Pan’s efforts to downplay the financial crisis, however, are not so reassuring upon closer examination. For one, Pan’s claim that the investment of local government debt in infrastructure has “good positive externalities for local economic development” belies the generally low returns and profitability, as well as high wastages, on such investment. Put another way, infrastructure investment in China is no longer an effective method of stimulus, something that Chinese economists have earlier noted.
Meanwhile, Pan’s claim that most local government debt is concentrated in provinces with larger economies and faster economic growth, and that those provinces can resolve their own debt, is a conceptual sleight of hand. For one, the indicators for assessing the debt risks of local governments are the debt-to-GDP ratio (負債率) and debt ratio (債務率), and not whether local governments have larger economies and faster economic growth. A local government’s debt ratio is also the indicator for gauging whether it has the ability to service its debt, not the size or growth rate of the province’s economy.
Source: Various local financial bureaus
According to publicly available data, PRC total government debt at the end of 2022 (excluding implicit debt) was 60.7 trillion yuan, of which local government debt was 35.1 trillion yuan and central government debt was 25.6 trillion yuan. And of the 31 provincial administrations, 17 had a debt balance of over 1 trillion yuan and a total debt of 26 trillion yuan, or 70.1 percent of total local debt. The GDP of those 17 provinces also accounted for 59.6 percent of the national GDP.
Of the 17 provinces with debt exceeding 1 trillion yuan in 2022, only Guangdong, Jiangsu, Zhejiang, and Sichuan rank in the top 10 provinces by GDP and have a debt ratio lower than 120 percent. These four provinces also account for just 23.9 percent of the total local government debt, and their GDP growth rate is lower than the national growth rate (except for Zhejiang) of 3 percent. Meanwhile, the local debt of 12 of the 17 provinces whose debt ratio exceeds the warning line of 120 percent accounts for 47 percent (16.5 trillion yuan) of the total local debt, and their GDP accounts for 27.3 percent of the national GDP. These figures show that local government debt risks are not concentrated in provinces with larger economies and faster economic growth as Pan Gongsheng claimed, and the provinces with high debt ratios will have problems in resolving their debt. Provinces are likely to have reduced ability to service their debt now as compared to last year given that China’s economic growth in 2023 is worse than in 2022.
Pan’s claim that the more economically developed areas have the ability to resolve their debt problems is also questionable when considering that some of the wealthier areas have been exposed as having problems paying civil servant salaries (see here and here) and have been unable to transfer funds to support the less economically development regions (e.g. Shanghai authorities became unable to financially assist Yunnan because of “zero-COVID”). Pan’s attempt to downplay the local government debt problem also runs counter to the central government’s effort to provide liquidity support to local governments through issuing 1.5 trillion yuan in special financing bonds, issuing an additional 1 trillion yuan worth of sovereign bonds, and allowing local governments to front-load part (up to 60 percent) of their 2024 bond quota.
2. Pan Gongsheng’s partial acknowledgment of real estate and local government debt risks, the risks of small and medium-sized banks, and currency depreciation risks, as well as the Central Financial Work Conference’s recognition of illegal financial activities, affirm our consistent warning (e.g. see here, here, and here) that real estate sector risks will spread to the financial sector and could trigger systemic financial risks.
To resolve financial risks, the PRC authorities have signaled through the Central Financial Work Conference and Pan’s recent remarks that it would rely on monetary easing and dragging out debt repayments (likely with the hope that inflation would cut down the size of the debt over time). In the short term, however, the financial system would see its risks substantially increased and heightened. The CCP regime would find itself in existential danger should those financial risks erupt before sufficient time has passed to allow the system to “digest” and defuse the risks.
The PRC authorities also appear to be tapping large financial institutions to “manage” the “spillover impact of the real estate market adjustment.” On Nov. 8, Reuters reported that the authorities have asked Ping An Insurance Group to take a controlling stake in Country Garden, citing four people familiar with the matter. Two sources with direct knowledge of the matter said that the PRC State Council had instructed the Guangdong provincial government to help arrange Ping An’s rescue of Country Garden. The authorities want Ping An to take a stake of over 50 percent, citing a person with direct knowledge of the matter and a person briefed on the plan. Ping An “categorically denied” the report while Reuters stood by its report.
Real estate risks in China continue to rise. Mainland news reports on Nov. 8 note that financing for mainland property companies is shrinking significantly. Mainland media also noted that more than 100 billion yuan worth of bonds are set to mature in the fourth quarter of 2023.
According to China Index Academy, total bond financing of mainland real estate companies in October 2023 decreased sharply year-on-year by 46.2 percent (down 19.5 percent month-on-month) to 27.64 billion yuan. From January to October 2023, total bond financing of real estate enterprises declined 8.9 percent from a year ago to 587.51 billion yuan. Meanwhile, the total balance of real estate bonds maturing in November and December 2023 was 116.53 billion yuan, with offshore bonds accounting for 23.4 percent of the total and credit bonds accounting for 76.6 percent.
Pan Gongsheng’s remark about the PBoC providing emergency liquidity support to debt-ridden local governments “when necessary” suggests that the central bank could create special purpose vehicles (SPVs) to facilitate the issuance of emergency liquidity, as some observers have discussed. With the additional liquidity from SPVs, mainland banks would be able to extend loans to local governments and roll over their debt.
3. The PBoC’s monetary easing and other policies to defuse financial risks do not actually defuse them but instead seek to delay triggering those risks. At the same time, monetary easing puts pressure on the RMB and forces the PRC authorities to continually resort to administrative means to stabilize the exchange rate.
The PRC authorities were initially reluctant to embark on large-scale monetary easing in the first three quarters of the year as it sought to defend the yuan, increase the confidence of foreign investors, and slow down capital outflows. But the authorities’ approval of issuing 1 trillion yuan in sovereign bonds in October created unusual liquidity stress and resulted in a rare money market distress event. The occurrence of money market distress could be part of the reason why Pan Gongsheng spoke about intervening in the exchange rate market when discussing currency matters.
We believe that the PRC authorities will invite more chaos and trouble upon themselves if they keep forcibly intervening to defend the RMB exchange rate. For instance, foreign financial institutions could exploit the central bank’s determination to protect the yuan to engage in arbitrage operations. Such operations would intensify downward pressures on the yuan and put increased strain on China’s foreign exchange reserves.
2 US, PRC set the stage for Xi-Biden summit in San Francisco
Both Washington and Beijing sent signals in the week of Nov. 6, 2023 indicating that PRC leader Xi Jinping and President Joe Biden will likely proceed with an in-person meeting on the sidelines of the Asia-Pacific Economic Cooperation summit in San Francisco from Nov. 11 to Nov. 17.
US signals
Nov. 8
1. Nikkei Asia reported a senior U.S. government official as saying that the Xi-Biden summit is scheduled for Nov. 15.
2. Axios reported that Biden and Xi are preparing to announce the resumption of military-to-military communications between the PRC and the U.S. when they meet at the sidelines of the APEC summit, citing three people familiar with the matter.
Axios also reported that the White House “hopes to pick up where Biden and Xi left off after the November 2022 G-20 summit in Indonesia, when the two leaders pledged closer communication.”
3. The New York Times reported that Xi Jinping is expected to speak to top U.S. business executives at a dinner and reception hosted by the National Committee on U.S.-China Relations and the U.S.-China Business Council after he meets with Biden.
An invitation circulating online said that tickets to the event cost $2,000 each. A person familiar with the matter told the Times that companies can purchase eight seats at a table plus one seat at Xi’s table for $40,000.
Nov. 10
Chairman of the Joint Chief of Staff General Charles Q. Brown Jr. sent a letter to his PRC counterpart, General Liu Zhenli, where he wrote, “I’m in the position and willing to open a line of communication.”
Brown also expressed optimism to reporters in Tokyo about the resumption of military-to-military communications between the U.S. and the PRC. “I think there’s an opportunity and … as the President potentially meets with Xi next week, we’re getting indications that there is some interest. If the opportunity presents itself, I will definitely engage.”
Brown also told reporters in Tokyo, “I do think that Xi Jinping doesn’t necessarily want to take Taiwan by force. He will try to use other ways to do this. I also believe that taking Taiwan by force and doing a major amphibious operation is not an easy feat.”
PRC signals
Nov. 8
When asked during a regular press conference to confirm whether Xi Jinping and Joe Biden were meeting on the sidelines of the APEC summit per news reports, PRC foreign ministry spokesman Wang Wenbin said, “The two sides have agreed to work together for the meeting between the two Presidents in San Francisco. In the meantime, it won’t be plain sailing to San Francisco, nor can we leave it to autopilot to get us there.”
Wang added, “The two sides need to return to what was agreed between the two Presidents in Bali and truly act on it. What is vital is for both sides to rise above disruptions, overcome obstacles, expand common understandings and accumulate potential outcomes.”
Nov. 9
1. State mouthpiece Xinhua published a new series of commentaries on the topic of “returning to Bali, moving towards San Francisco” (重返峇裡島, 通往舊金山).
The “editor’s note” in the first article of the series noted that while there has recently been “stabilization” in Sino-U.S. relations, the bilateral relationship “still faces serious difficulties and severe challenges.” To “stabilize and improve bilateral relations,” the U.S. must follow the three principles of “mutual respect, peaceful coexistence, and win-win cooperation” as proposed by Xi Jinping.
The “editor’s note” echoed Wang Wenbin in saying that the journey to San Francisco “won’t be plain sailing” and “cannot rely on autopilot.” To bring Sino-U.S. relations back to a “healthy and stable development track,” both sides must “move towards each other, truly ‘return to Bali,’ overcome interference, eliminate obstacles, accumulate results, and create an atmosphere.”
2. Speaking about Sino-U.S. relations at the Hong Kong Forum, PRC ambassador to the United States Xie Feng said, “To move toward San Francisco, it is important to return to the Bali consensus.”
Xie elaborated, “This means earnestly acting on the important common understanding reached between our presidents in Bali, and translating President Biden’s statements into concrete actions, including that the United States does not seek to change China’s system, does not seek a new Cold War, does not support “Taiwan independence,” does not support “two Chinas” or “one China, one Taiwan,” and has no intention to seek “decoupling” from China or to halt China’s economic development.”
Xie also said that the “path to San Francisco cannot rely on autopilot.”
Nov. 10
In answering questions from reporters, a PRC foreign ministry spokesperson said that Xi Jinping, “at the invitation of U.S. President Joe Biden,” will travel to the U.S. for a U.S.-China summit meeting at the APEC meeting. The spokesperson added that the two leaders will have “in-depth communication on issues of strategic, overarching and fundamental importance in shaping China-U.S. relations and major issues concerning world peace and development.”
Our take
1. The propaganda and rhetoric about Sino-U.S. relations from the PRC side affirm our analysis in the Nov. 2, 2023 newsletter. We wrote that “the Xi leadership is more willing to work with the Biden administration to improve the Sino-U.S. relationship than resort to aggressive behavior in the region.”
We also explained, “The CCP has an incentive to improve Sino-U.S. relations so that it can buy time to resolve its serious domestic problems. The CCP is also likely looking to make good with the U.S. for the time being while it ‘delays and waits for changes’ (i.e. the U.S. seeing major economic and financial problems, Washington being bogged down in the Russia-Ukraine war and the Israel-Hamas conflict, U.S. domestic political instability, etc.) to advance its world domination agenda and fulfill its vision of ‘the East is Rising, the West is in Decline.’”
The PRC foreign ministry’s unwillingness to officially confirm that Xi Jinping will meet with President Biden in San Francisco until the last minute suggests that Beijing is leaving itself room to walk away from the bilateral summit “should the Biden administration push the PRC too hard or make moves that embarrass Xi,” as we wrote earlier.
However, the propaganda by PRC state media and remarks by PRC foreign ministry personnel indicate that Beijing was always keen on proceeding with the Xi-Biden meeting so long as the Biden administration sticks to its commitment to a series of CCP “red lines” (the “five-noes”) laid out when the two heads of state last met in Bali on the sidelines of the G20 meeting in 2022.
We believe that unless Washington makes last-minute moves that undermine the so-called “Bali consensus,” Xi Jinping will ultimately have a face-to-face meeting with Biden in San Francisco. That being said, we do not expect the meeting to dramatically change the current deterioration of Sino-U.S. relations as both sides prioritize the safeguarding of their respective national security and remain unwavering in their respective ideological stances. As we earlier analyzed, “This means that any agreements or concessions made by either side at a hypothetical Xi-Biden summit or during other diplomatic meetings are unlikely to be binding unless the fundamental factors (national security and ideology) dividing the CCP regime and the U.S. are resolved.”
2. The information by Axios that President Biden and Xi Jinping are preparing to announce the resumption of military-to-military communications between both sides when they meet at the APEC summit means that our previous analysis is on track for verification.
We wrote in the Oct. 26, 2023 newsletter that Xi could “resume to a partial or fuller degree the PLA’s bilateral engagements and military-to-military communications with the United States.”
