[Anjani Trivedi] China Inc. virus cure will make matters worse

Beijing is throwing all it’s got at the coronavirus. Less visible than the drama of quarantining communities, however, is the new pressure that the outbreak is bringing on China Inc.’s hard-up borrowers. They face $944 billion of debt maturities onshore and $90 billion offshore this year. Authorities are going back to their old playbook of spewing handouts to get them through. The costs will add billions of dollars of debt and cripple an already weakened financial system. It may be doing more harm than good.

Workers are stranded and factories remain widely shut. There is no imminent sign of that changing, even if the increase in infections has trended downward in recent days. The resulting economic slowdown will bite into earnings by 10 percent to 20 percent for months and hamper the ability of companies to pay their debts. As asset quality deteriorates, Goldman Sachs Group Inc. estimates that Chinese banks’ implied ratio of bad-to-total loans will jump to 8.1 percent from an earlier prediction of 5.4 percent.

China has responded with all-too-familiar palliatives. Regulators and local governments have laid out measures that include billions of dollars for tax cuts, borrowing at cheaper rates and incentives to keep workers employed. Banks are being asked to push off repayments and to roll over debts. They’re allowing companies to add more working capital loans before they have paid down existing ones.

Trouble is, China Inc. was already struggling before the virus hit, especially the private sector. A stimulus campaign to pull manufacturers out of the trade war doldrums didn’t do much for their balance sheets last year. Private companies’ accounts receivables remain elevated and have been increasing for the likes of large machinery makers. Short-term funding and average payback periods are also rising. Financing for capital expenditures and working capital slowed into the end of last year. A recent survey of 995 small and medium-size companies showed that a just over a third could survive for a month with their current savings. Another third could hang on for two months, while just under 18 percent could last three. All this as large banks reported a more than 30 percent increase in loans to smaller borrowers in the first half of 2019.

Beijing’s latest round of financial forbearance will only worsen the situation. Lending more with looser terms may help tide over some companies and refinance their debt for now, but does little to flush out the ones that just aren’t financially viable. That many cannot support themselves without the state for even three months shows China’s vulnerabilities.

Lenders, the pillars of the financial system, are weaker than the numbers betray. The central bank’s stress tests show as much. Before the virus, they were contending with a bank failure and a deleveraging campaign that unearthed billions of dollars of bad credit assets. Government coffers, meanwhile, are shrinking. All of the state’s largesse has meant fiscal revenue growth slowed to 3.8 percent last year, well under its 5 percent target and down almost half from 6.8 percent in 2018.

In theory, Beijing has the tools and a vast number of financial institutions aside from banks to lean on. In times of crises, financial forbearance isn’t unheard of. But repeated use of banks this way multiplies the dangers to unsustainable levels. Small and midsized enterprises facing funding issues have to reach for more shadowy financing. The private sector is cash-starved and debt piles up. That debt, as the deleveraging campaign has shown, clogs the system and makes every yuan of credit even more ineffective. Companies can’t grow and lenders start to fail. The state is left holding the bag.

A more prudent approach this time might be to call in service insurance companies with huge balance sheets, and asset management companies, with their experience in dealing with stressed companies. Insurers have been big buyers of bonds, stocks and private equity deals for years. As operators in a marketplace, they understand credit risk better than banks. They could be more effective in managing small and midsized companies’ debts. It’s time to let weak companies that have high operating leverage and short-term debts close down. But that might be too risky for President Xi Jinping, who continues to voice support for them. After all, they account for around 80 percent of urban employment.

When China dealt with severe acute respiratory syndrome in 2003, an era of supercharged growth was beginning. China had recently joined the World Trade Organization and even indebted companies had cash flowing in and the prospect of a lot more coming. That’s no longer the case. Even if Beijing manages to rein in the coronavirus, debt will keep sickening China Inc.


Anjani Trivedi
Anjani Trivedi is a Bloomberg Opinion columnist covering industrial companies in Asia. -- Ed.

(Bloomberg)