China May Face Financial Crisis With Cities Under Trillions Of Debt Following Zero-Covid Policy: WSJ

China is on the verge of a financial crisis after its local governments accumulated trillions of dollars worth of debt due to massive spending amid the COVID-19 pandemic.

The Wall Street Journal reported, citing a survey by the New York-based research firm Rhodium Group, that about a third of China's major cities are struggling to pay their debt interests.

Rhodium Group further revealed that debt interest costs accounted for at least a fifth of the fiscal space in 25 Chinese cities in 2021.

China's 31 provincial governments have also accumulated around $5.1 trillion in debt, including bonds held by local and foreign investors.

Moreover, the Asian country faces "hidden debt" from local government financing vehicles intended to fund infrastructure projects and other spending obligations. The International Monetary Fund estimates China's hidden debt could balloon to nearly $10 trillion this year.

Most of the debts incurred by Chinese local governments aimed to fund the strict lockdowns, mass testing and quarantine centers, which were the hallmarks of the controversial zero-COVID policy.

As the debt and its interests continue to pile up and mature, Chinese local governments are forced to cut their spending or delay investments, impeding economic growth and public services.

In Zhengzhou, where the world's biggest iPhone factory stands, the city's fiscal revenue dropped by an average of 14% per year while its total debt grew by 14%. Its debt-to-fiscal income ratio surged 178% in 2022, compared with 75% in 2019.

The Chinese city's public services spending is feeling the brunt of the growing debt.

Zhengzhou's bus drivers said their salaries were cut in 2021, while street sweepers continue to work despite not being paid for their services in months.

Xu Aiqiang, a 67-year-old street sweeper, said her company hadn't paid her monthly salary of around $320 for seven months.

"Our salary isn't high. Why does the country even owe us this kind of money?" Xu said.

"Even if they aren't paying me, I'm still keeping my areas clean, so I can see it for myself," she added.

In Shangqiu, another Chinese city about two hours drive from Zhengzhou, a bus company there announced that it would suspend its services beginning March 1 due to a "lack of sufficient fiscal support." However, the bus company reversed its decision after the local government apologized for the "negative social impact."

Despite the growing debt problem, China's central government had offered only modest financial support for local governments and urged local officials to practice fiscal discipline.

Annual fiscal support from the Chinese central government to local governments could increase by 3.6% or around $1.5 trillion this year.

Chinese municipalities would also be allowed to issue around $550 billion worth of local government special purpose bonds, down from an actual issuance of $580 billion in 2022.

However, China's Ministry of Finance has warned local authorities that they won't bail them out from debt.

"If it's your baby, you should hold it yourself," the Chinese Ministry of Finance said earlier this month, CNN reported.

"The central government won't bail [you] out."

Nicholas Borst, the director of Chinese research at San Francisco-based investment firm Seafarer Capital Partners, explained why the Chinese central government isn't strong enough to bail out cities and provinces from their liabilities.

"Moreover, a one-off series of bailouts would increase moral hazards and not change the underlying dynamics that led to the problem in the first place," Borst wrote in his research paper on local debt.

Insufficient financial support for Chinese local authorities could lead to more salary cuts, reduced services, and fewer investments.