China’s corporate bond defaults reveal vast hidden vulnerability

Xi Jinping should let companies incur pain to clean up economy

By William Pearl

While investors and the media obsess over Chinese President Xi Jinping’s ability to keep top-line economic growth at 6% this year, the real action — the real threat — is unfolding beneath the surface of China’s strained financial system.

The world’s second-biggest economy ended 2019 with record corporate bond defaults, a result of the slowest growth in nearly three decades. More than 150 onshore companies reneged on debt payments totaling about $19 billion. That was up from 120 companies and $17.6 billion in 2018.

Fitch, S&P Global and other rating agencies are now warning of more to come as financing dries up for private companies, worsened by the global trade war and a decade of debt-fueled growth coming due. China’s ratio of corporate debt to gross domestic product jumped to a record 160% by the end of 2017 from 101% 10 years earlier.

This year, Xi’s team is going to need to stabilize things, testing Beijing’s tolerance for the pain it will take to clean up China Inc.

There are rising concerns about where the cracks are appearing — in smaller rural banks and local government financing vehicles whose excesses raise questions about systemic risk and the giant shadow banking system that lurks beneath it all in China’s tilting economy.

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China has steadily accumulated U.S. Treasury securities over the last few decades. As of May 2019, the Asian nation owns $1.11 trillion, or about 5%, of the $22 trillion U.S. national debt, which is more than any other foreign country.

As the trade war between the two economies escalates, leaders on both sides seek additional financial arsenal. Some analysts and investors fear China could dump these Treasurys in retaliation and that this weaponization of its holdings would send interest rates higher, potentially hurting economic growth.

The question is, is China—the world’s largest manufacturing hub and an export-driven economy with a burgeoning population—trying to “buy out’ the U.S. markets through its debt accumulation, or is it a case of forced acceptance? This article discusses the business behind the continuous Chinese buying of U.S. debt. 

By Shobhit Seth Full report here