China’s local govt financing vehicles struggle to pay IOUs

Cash-strapped local governments have relied on suppliers to fill the budget gap created by the housing market collapse. (AP image)

BEIJING: According to some analysts, a growing number of Chinese local government financing vehicles (LGFV) are failing to repay money they owe to suppliers in the form of commercial paper debt, underscoring the growing financial strain on companies involved in raising funds for support are mandated by infrastructure investments.

By the end of August, 43 LGFVs — including parent and subsidiary companies — had failed to redeem maturing commercial paper at least three times in the previous six months, analysts at consultancy Lianhe Credit Investment Consulting Co Ltd wrote in a note last week based on Shanghai Commercial Paper data Exchange. That’s up from 27 at the end of July.

LGFVs are set up by local authorities to raise money for infrastructure and community projects. But tighter controls on their borrowing, on the one hand, and growing pressure to raise more money to help local authorities boost investment, have left them increasingly cash-strapped.

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Nineteen of the defaulting LGFVs have also issued bonds that are traded on the domestic interbank market or on exchanges. They owed a total of 886 million yuan ($126.4 million) in commercial paper at the end of August, compared with 10 that owed 232 million yuan at the end of July, analysts at brokerage house Huaan Securities Co Ltd wrote in a Sept. 6 note.

Commercial Paper, known in China as Commercial Acceptance Bills, is a type of short-term promissory note that large corporations offer their suppliers in lieu of cash payment and must be redeemed within a year. Many analysts consider the debt instrument – which earns interest and can be traded between companies – to be an off-balance sheet liability for the issuer, and non-payment is seen as an early sign that the company is facing a liquidity crisis.

Some LGFVs may not face a liquidity squeeze but may be victims of technical problems such as the low efficiency of the bank payment system, analysts at TruValue, an asset management firm, wrote in a note on Friday.

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An LGFV in Xuzhou, a city in Jiangsu province, said it failed to repay its commercial paper on time due to travel restrictions to control a local Covid-19 outbreak, the analysts wrote, although they added it eventually made the payment have.

Nevertheless, the financial pressure on LGFVs is increasing for various reasons.

Since last year, increasing numbers of local governments have been trying to fill the hole in their budgets created by the housing market collapse, which has left private developers unwilling or unable to buy land use rights at auctions. LGFVs have been pressured to bid for the country, but it has meant many already financially strapped vehicles are struggling to raise the money because they are so heavily in debt.

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Many projects financed by LGFVs serve the common good and as a result have not generated enough money to allow the vehicles to repay their debts, forcing them to refinance at higher interest rates. In the first half of 2022, 3,346 bonds were issued by LGFVs, and the proceeds from 84% of them were used to refinance existing debt, analysts at Huaan Securities wrote in a note in July.

It has also become more difficult and costly for many LGFVs to sell bonds and obtain bank loans as the creditworthiness of the local governments they control deteriorate.

“We don’t check whether the projects that the LGFVs fund are losing money or not,” an employee of an insurance company’s asset management department told Caixin. “We are only assessing whether the local government can provide sufficient support.”

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