History Repeats: Chinese City Tells Banks to Lend To City LGFV or Else

Back in 2014, defaults were soaring in the Xiaoshan district in Hangzhou as mutual credit guarantees blew up the entire entrepreneur class in the district. loans were being called left and right, triggering defaults across the district's entire economy. The government's response was to tell the banks: don't call in your loans. If you do, pack your bags and leave the city, your business is over here.

I covered some of the Chinese media reports in Rumored Mass Death of Companies in Xiaoshan District of Hangzhou If Banks Collect on Debts; Government Tells Banks to Sit Tight or Leave

Now history is repeating, only this time a local government is trying to save itself.

Caixin: Local Officials Threaten Banks Reluctant to Keep Lending
Keep the loans coming or we’ll report you for corruption.

That’s what officials from the central Chinese city of Changde recently told local banks reluctant to continue lending to local government financing vehicles (LGFVs), Caixin has learned from multiple sources.

Specifically, the officials threatened that the Changde government would report information about alleged misconduct at the banks to the local anti-corruption watchdog, Caixin has learned.

The threat, which the Changde government has denied, shows the lengths that local governments are willing to go to keep funds flowing to debt-burdened LGFVs — companies set up by local authorities to raise money primarily for infrastructure projects.
How much money is at stake in LGFVs? About 60 percent of China's GDP, equivalent to 300 percent of local government debt and roughly 150 percent of all of China's official on-the-books government debt.
The stakes are high, considering how much money LGFVs owe. By the end of June 2017, the outstanding debt of LGFVs that have issued bonds reached an estimated 47 trillion yuan ($7.12 trillion), according to a study by the Chinese Academy of Fiscal Sciences and the Society of Public Finance of China, which are backed by the Ministry of Finance.

By comparison, China’s outstanding local government debt, which does not include off-the-books debt held by LGFVs, was 16.51 trillion yuan at the end of 2017, according to government data. That figure, equal to about 20% of China’s gross domestic product, accounted for more than half of the country’s total government debt.
The anecdotes repeat because history repeats. The stimulus is over and the credit contraction is underway.

This story highlights the default risk in China's economy. The Middle Kingdom doesn't need to actually deleverage to have a crisis, it only needs to slow credit growth such that the combination of credit demand and GDP growth isn't enough to repay existing debts at currently high interest rates (speculative and Ponzi finance). With debt-to-GDP ratios above 200 percent and high interest rates for private business, there is already a crisis underway, but M2 is still chugging along at 8+ percent and total credit growth is above 10 percent.

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