The Peter Zeihan Podcast Series - Can China Save Itself From the Mounting Debt Crisis? || Peter Zeihan

Episode Date: November 21, 2024

Beijing has announced a hefty plan to help local Chinese governments refinance their debt. But is this enough to ward off the mounting debt crisis?Join the Patreon here: https://www.patreon.com/PeterZeihanFull Newsletter: https://mailchi.mp/zeihan/can-china-save-itself-from-the-mounting-debt-crisis

Ah, Ottoman Colorado, and the sound of marmints and owls give way to snowblowers and tow trucks. Anyway, two and a half feet into this little shoveling shenanigans. I figured it would be a good backdrop to talk about somebody else who's gotten snowed in. That's Chinese government debt, and just work with me. It's not a perfect analogy. So in China, you have multiple levels of government, just like we have here in the United States. But mostly it's just local government and national government. over the course of the last 20 years, the national government has acceded a lot of power to the local government in order to give them a, basically somebody to blame when something goes wrong because you can always sack the local governor or mayor.

But they have not extended tax raising capacity. So every local government gets basically a stipend from the national government, and there's very little that they can do outside of that to raise taxes themselves. And so what the system does, it survives on debt by a different method. So most Chinese companies, especially Chinese state companies, are massively indebted, far more than you would see in any other country in the world, most notably the United States. And a lot of that debt ultimately is indirectly held by the national government. But because on the books, it's not a lot of people think that investing in the Chinese economy is a good idea because the Chinese economy has technically lots of road to run at the federal level.

It's totally an accounting gimmick, but it fools a lot of people. At the local level, if the stipend that the government gives you is not sufficient, what you generally do is you sell land, but you can only do that once. And that has been done already. And so what is left is to do you do something called a local government financing vehicle where you, in essence, issue an unofficial debt, whether it's a loan or a bond, and people can, if they want to invest in it, but oftentimes they're like, oh my God, no, that's totally opaque. Even the IMF says that it's not really collected in their normal data anymore because it's all hidden. Best guess by the IMF, who knows if it's true, is that the collective acid class of local government finance vehicles now amount to a little over 8 trillion U.S. equivalent, which is about half of total Chinese G.S. GDP, whereas at the federal level, you're talking about a total debt load is that's under 25% of GDP.

And then, of course, the corporate debt load is something like 200 to 300% of GDP. But, you know, who's counting? We're going to show a little graphic here from the IMF showing what the debt loads are for the local governments. As you can see, that big chunk in the middle that we're pointing to is the part that we're talking about. That needs to be financed. It's the majority of the debt classes in the Chinese system. Everything else, the official stuff is a pretty small in comparison. And remember that in China, the local governments can issue these debts, but they can't necessarily

raise capital. There is no income tax at the local level. There is no sales tax or GST at the local level. They can do property taxes, but since selling lands for property is their primary method of raising money, they try not to do that because it would choke out all their other sources of income. Anyway, the local governments, because they can issue these debts, but they can't really raise taxes themselves, just get deeper and deeper and deeper and deeper under. and it's gotten to the point that basically stimulus activities at the local level have stopped because they just can't raise any more. So what happened on the 8th of November is the federal government has stepped in and said that they will raise some debt themselves

about the equivalent of 800 billion U.S., which is about 6 trillion yuan, in order to help all of the local governments refinance their debt onto more official terms, so at least the federal government knows what it's dealing with. Now, if you look at the interest rates that are charged on most of these off-sheet assets, you're probably talking about the government really just stepping and uncovering two years of financing. So it's not going to hold for very long, but what the national government is attempting to do is get a grip on how big the problem really is. Private estimates, IMF estimates are all over the board. The IMF is a little on the high end compared to some of them that I've seen. But, you know, the IMF is pretty good at figuring out when a country is hiding something.

in its books, so I tend to err in their general direction, even if I don't buy the numbers altogether. So the challenge moving forward is what does this do to confidence in everything else? Because now we are formally tying the national balance sheet to the local balance sheets, and they're already informally tied to the corporate balance sheets. So it really, honestly, if you add this all together, the Chinese economy is at least as indebted as the Japanese economy. and if you include pension arrares in the Japanese economy, you're talking about 500% of GDP. So once that sinks into the wider world, I am sure we're going to see some adjustments in people and industry's interest in holding anything in China.

Because once it becomes apparent that the reality is far, far, far, far, far worse than the 25% of GDP that people thought the federal government in China really was indebted to, it's going to force some adjustments. And then you start looking at long-term payment options. and what it looks like for revenue moving forward. And the Chinese economy has basically been stalled since the start of COVID in 2019. And more importantly, we now have a country that is entering mass retirement Japanese style without a replacement generation coming up from below.

The Japanese have this weird little double dip in their demographics. So they've got a large number of people in their 70s and early 80s, and then it kind of shrinks down. And they've got another group of large people in their late 50s and early 60s. So there's still some taxpayers there

that can help the Japanese out with a few things. China doesn't have anything like that. So, I think that's all of it. Yeah.