China debt burden constrains scope for broader economic stimulus

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China debt limits stimulus

Highlights

Debt servicing payments will consume 19.2 per cent of China's central government budget in 2024, up from 12 per cent in 2014, with combined central and local interest reaching Rmb1.4tn by 2026.
Public debt-to-GDP is projected by Morgan Stanley to hit 122 per cent by the end of 2026, 48 percentage points above pre-pandemic levels, sharply limiting fiscal flexibility.
Recent stimulus, including Rmb100bn in subsidies over five years and housing value caps, targets specific sectors and advanced technology, with broad-based support constrained by budget pressures.

Budget pressure builds across government finances

As reported by Financial Times, citing the Conference Board, debt servicing payments alone are expected to account for 19.2 per cent of the central government's general public budget this year, up from 12 per cent in 2014. At the local government level, the pressure is more acute, with debt interest payments rising 16 per cent annually over the same period.

Together, central and local government debt interest payments are projected to reach Rmb1.4tn in 2026, up from about Rmb348bn in 2014. Yuhan Zhang, principal economist at the Conference Board's China Center, said debt servicing is becoming a material constraint on fiscal space at the local level.

China's debt has expanded rapidly under an investment-led growth model that relies on state loans and incentives for government-backed projects. Morgan Stanley analysts estimate public debt-to-GDP is set to hit 122 per cent by the end of 2026, up 48 percentage points from its pre-pandemic level.

Stimulus choices favor targeted support

Beijing has pledged to do more to stimulate domestic demand after a five-year property sector slowdown weakened household finances and local government revenue. Economic growth slipped to 4.3 per cent in the second quarter, below the official full-year target range of 4.5 to 5 per cent, as retail sales soften and fixed-asset investment falls sharply.

Authorities unveiled measures late last month including subsidies for mortgage interest payments and cuts to interest on a funding facility, shortly after the State Council called to intensify countercyclical macro policy adjustments. Officials have also stepped up efforts to recover taxes on interest and dividends from offshore trusts, adding revenue by tightening collection from wealthy citizens.

Several analysts question whether those steps are enough. Barclays says the measures are a nudge rather than a game-changer, Goldman Sachs estimates the fiscal subsidy at up to Rmb100bn over five years, and UBS says the policy is likely to fall short of investor expectations, partly because of a housing value cap of Rmb1.5mn.

With export growth, especially in AI-related electronics, still strong, Beijing indicates it is prioritizing investment in advanced technology over setting aside larger sums for broad consumption support as it competes with the U.S. in emerging industries. President Xi Jinping says China must continuously expand and strengthen advanced manufacturing and improve self-reliance.

Economists say Beijing could still issue more central government bonds if it wants a stronger stimulus push, because the central government is viewed as less indebted than local authorities. But policymakers may be reluctant to add leverage when the central government's fiscal deficit runs at about 4 per cent and the augmented deficit, a broader measure of state spending, is about 10 per cent of GDP, according to Goldman Sachs.

The central government is also transferring more revenue to lower levels of government after the property crisis undermined land-sale income. The Center for Strategic and International Studies says spending on debt interest payments rose 341 per cent between 2013 and 2025, faster than any other major budget category.

Budget priorities also point to selective rather than broad support. Zhang says the budget favors science, technology and other strategic priorities instead of a large-scale stimulus aimed mainly at lifting near-term growth, while local governments are being pushed to accelerate already allocated spending after weaker-than-expected fiscal outlays in the first half.

Our earlier article on AI-related debt issuance highlighted how the surge in borrowing to fund data centres and chip infrastructure began to lose momentum in September as investors reassessed leverage and return prospects. We noted that, after record fundraising earlier in the year, markets turned more selective, pushing up borrowing costs and putting large upcoming financings under closer scrutiny amid mounting project risks and local opposition.

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