Has China Turned on the Debt Machine?

ZeroHedge: China Creates Perpetual Leverage Machine After Dropping Debt Directive

Note what China has done. They justified the implementation of LTROs by pointing to the need to jumpstart the refinancing program for local government debt accumulated off-balance sheet. The LTRO program will have the effect of creating more leverage, as purchased LGBs are pledged for PBoC cash that's then re-lent. The net increase in leverage could be justified by the hundreds of billions local governments will save on interest expense. Meanwhile, local governments would not be allowed to use LGFVs to take on more debt because after all, taking out off-balance sheet loans was what got them into trouble in the first place, so tapping those channels again while simultaneously participating in the debt swap program would render the entire refi effort useless. Now, Beijing has done a complete 180 and will not only allow, but encourage local governments to accumulate more of the very same type of debt they are now swapping, meaning that even as the newly-issued debt-swap bonds decrease local governments' debt servicing costs, new financing via LGFVs will invariably carry higher rates just as it did before, meaning the whole program is a wash.

Actually it's worse than that. Because as we noted above, inserting an LTRO program into the equation means that every new debt-swap bond ultimately ends up creating a new loan for the broader economy and now that local governments are free to go right back to accumulating the same high interest loans which necessitated the creation of the debt swap program in the first place, the end result is simply the original scenario (i.e. local governments gorging themselves on off-balance sheet financing) only with the addition of an LTRO program.

Better (or worse) still, one is certainly left to wonder what stops Beijing from allowing newly-acquired off-balance sheet debt to be swapped for still more newly issued muni bonds.

The end result of a surge in credit will be increased capital outflows, hardened depreciation expectations and more bad debt when the final denouement arrives.