Some market watchers, shaken by the eye-popping increases in China’s debt indicators, have concluded that a financial crisis is imminent. After all, countries whose debt ratios have risen by similar magnitudes in just a few years have all crashed soon after. China, they say, seen as no different.
Yet when analysts drill into the balance sheets of borrowers and banks, they find little evidence of impending disaster. Government debt ratios are not high by global standards and are backed by valuable assets at the local level. Household debt is a fraction of what it is in the west, and it is supported by savings and rising incomes. The profits and cash positions of most firms for which data are available have not deteriorated significantly while sovereign guarantees cushion the more vulnerable state enterprises. The consensus, therefore, is that China’s debt situation has weakened but is manageable.
Why are the views from detailed sector analysis so different from the red flags signalled by the broader macro debt indicators? The answer lies in the role that land values play in shaping these trends.
Land in China is an asset whose market value went largely unrecognised when it was totally controlled by the State. Once a private property market was created, the process of discovering land’s intrinsic value began, but establishing such values takes time in a rapidly changing economy.
The Wharton/NUS/Tsinghua Land Price Index indicates that from 2004-2012, land prices have increased approximately fourfold nationally, with more dramatic increases in major cities such as Beijing balanced by modest rises in secondary cities. Although this may seem excessive, such growth rates are similar to what happened in Russia after it privatised its housing stock. Once the economy stabilised, housing prices in Moscow increased six fold in just six years.
Much of the recent surge in the credit to GDP ratio is actually evidence of financial deepening rather than financial instability as China moves toward more market-based asset values. If so, the higher credit ratios are fully consistent with the less alarming impressions that come from scrutiny of sector specific financial indicators.