China faces fiscal strain as IMF urges stronger stimulus

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China IMF stimulus warning

Highlights

IMF projects China’s GDP growth will slow to 4.5% in 2024 from 5% last year and drop further to 4% by 2027.
Land-sale income for China’s local governments plunged from 8.7 trillion yuan in 2021 to 4.2 trillion yuan, driving a 3.5% fiscal spending decline in the first eight months of 2024.
S&P Global Ratings reports hidden local government debt fell to 6.5 trillion yuan in 2023 from 14.3 trillion yuan, but many state borrowers still face cash flow and profitability issues.

Debt pressures reshape China’s stimulus options

As reported by CNBC, IMF Managing Director Kristalina Georgieva says China needs to spend more even as Washington and European governments are being pressed to tighten their fiscal stance. Speaking at the IMF and World Bank meetings in Bangkok earlier this month, she calls for more meaningful fiscal stimulus as China’s economy teeters on deflation and the fund expects growth to slow to 4.5% this year from 5% last year, before easing further to 4% in 2027.

The IMF says China’s general government debt stands at about 68.4% of GDP, suggesting Beijing has borrowing capacity on the sovereign balance sheet. But its broader measure of augmented government debt, which includes local government financing vehicles and other off-balance-sheet borrowing, reaches about 126.6% of GDP last year, a level the fund says is comparable to developed markets including the U.S. and Europe.

For years, local governments relied on land sales to developers to finance roads, rail lines and industrial parks, but that funding model has weakened sharply since the property downturn began in 2021. CF40, a Beijing think tank that co-hosted last week’s Bund Summit in Shanghai, estimates land-sale income has fallen to 4.2 trillion yuan from 8.7 trillion yuan since 2021.

Local spending cuts deepen growth risks

That revenue squeeze is now feeding into weaker public spending and investment. Ting Lu, Nomura’s chief China economist, estimates combined fiscal spending declines 3.5% in the first eight months of the year after rising 3.6% last year, describing the pullback as a “true fiscal cliff” that is becoming a real drag on the economy.

Urban fixed-asset investment also declines for the first time in decades, falling 3.8% last year and then dropping 7.2% in the first three quarters. While Beijing keeps its official deficit target at about 4% of GDP, the Institute of International Finance estimates the actual deficit could reach as much as 9% and says even that may not be enough to stabilize activity.

Beijing is also ordering state-backed borrowers to clear hidden debt and shift toward market-oriented commercial state-owned enterprises by mid-2027. S&P Global Ratings says hidden debt in these vehicles shrinks to 6.5 trillion yuan last year from 14.3 trillion yuan in 2023, but adds that many still lack the cash flow to service interest and remain tied to unprofitable public projects.

Krishna Srinivasan, director of the IMF’s Asia and Pacific department, says the fund wants China to adopt a medium-term fiscal framework that allows near-term support to reflate the economy while withdrawing that support over time to preserve debt sustainability. The IMF also urges Beijing to move away from point growth targets, arguing they encourage local officials to overinvest and worsen resource misallocation and provincial debt burdens.

In our earlier article on China’s late-September policy support and third-quarter growth outlook, we explained that economists expected only a modest pickup in activity as weak consumption, soft private investment and property-market stress persisted. We also highlighted how targeted rate cuts, mortgage subsidies and the use of unused debt quotas were aimed in part at easing local-government funding pressures, even as trade strength continued to offset domestic weakness.

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