Following a series of high-profile bond defaults that shocked international investors, local Chinese government authorities are now scrambling to establish billion-dollar rescue funds to bail out state-owned companies. Since the end of 2020, six provinces in the country have committed at least 110 billion renminbi ($17 billion) to the funds, as local economies were rocked by a cash constraint among indebted state-owned firms, revealed public records.
Companies like Yongcheng Coal and Electricity Holding Group, which threw the local economy of Henan's central province into chaos last year when it missed a 1 billion renminbi loan payment and stopped paying some of its 180,000 workers, were among the defaulters. As reported last year, some executives from several local government financing vehicles (LGFVs) stated that bond sales and loan applications had been cancelled as a result of debt-ridden state-owned firms.
At that time, the credit constraint that LGFVs are facing—which are in charge of funnelling cash to China's local governments—sparked fears that failures at state-owned enterprises (SOEs) would spread to other sections of the economy that has relied on infrastructure expenditure to recover from the coronavirus caused damage. In November 2020, following a string of such defaults, Liu He, China's Vice-Premier, warned that Beijing would have "zero tolerance" for corporate misbehaviour.
As reported by the Financial Times, an official in Henan, which started a bailout fund in April this year, said: "The entire province has suffered economically because a single SOE failed to make bond payments on time". The reports also noted that while China's economy was one of the earliest to recover from the Covid-19 outbreak, recovery has been uneven in some provinces that rely on SOEs.
Last year, state-owned companies issued 119 billion renminbi in distressed bonds, the greatest amount since China began allowing SOEs to default in 2014, and up from 22 billion renminbi in 2019. The defaults have alarmed investors who had expected the bonds to be backed by the government.
However, the establishment of the provincial bailout funds was the latest effort by local Chinese officials to regain creditor trust. Analysts, on the other hand, worried that the policy might exacerbate China's debt problem, which they described as a ticking time bomb for the world's second-largest economy. Zhang Pan, who is the head of research at a Shanghai-based asset manager, Raman Capital, said: "The purpose of bailout funds is to send a message to the market that the government will step in when things go wrong…they are not going to make a mismanaged SOE a better-run business".
Over the years, China's perspective on such cases has also changed. The report said that in contrast to the previous premier Zhu Rongji, who dealt with SOE failures in the 1990s by "keeping the big and letting go of the small," the current Chinese President Xi Jinping sees state businesses as the "bulwark of the economy".
In September 2020, the heavily indebted northern province of Hebei became the first in the country to establish a bailout vehicle, a 30 billion renminbi SOE "credit guarantee fund" (CGF). Jizhong Energy, a troubled state-owned enterprise in the same province, had taken 15 billion renminbi from the provincial CGF to pay off the bond principal and interest by the end of May, and that was equivalent to three-quarters of its earnings last year. A Jizhong official said, "our liquidity problem has greatly eased following the bailout," while adding that the company remained highly leveraged and would seek another 15 billion renminbi from the Hebei CGF in the coming months.
It was said that 26 SOEs in Henan province, ranging from coal mines to copper processors, contributed 30 billion renminbi in seed money to a CGF. According to an official at Pingmei Shenma Group, an energy behemoth and Henan CGF shareholder, when external finance runs out, the provincial government urged it to assist.
Bank loan issuance in Henan declined 10 per cent in the first half of the year due to the Yongcheng Coal default, compared to a national growth of 6 per cent. Meanwhile, the Chinese province's net corporate bond financing—new bond issuance minus interest and principal payments on existing bonds—was minus 20.1 billion renminbi in the first half of the year, according to official data. Due to the credit bottleneck in Henan, the Chinese Communist Party-led government began urging local authorities to assist distressed SOEs. As a result, only one bond issuer has missed a payment this year but investors, on the other hand, were concerned about the absence of reform among struggling SOEs.
An adviser to Hebei's State-owned Assets Supervision and Administration Commission, the SOE regulator said: "The government doesn't have a long-term plan to turn bad SOEs into good ones. Its priority is just to get through the short-run liquidity crisis". Meanwhile, a risk management official at one of the country's largest banks said: "Bailout funds are too small to meet the funding demand from a great many cash-strapped SOEs. We need to prioritise performance instead of local interests".
In Hebei, an executive at one of the local CGF's shareholders stated that the company chose to contribute to the rescue fund for political reasons rather than financial ones and added that do not expect a market return from the investment.
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