Fitch Warns of Credit Downgrades for China and Japan

Fitch Ratings warned Thursday that it might downgrade the credit rating of China within two years and there was a greater than even chance of a downgrade of Japan's credit status.

Andrew Colquhoun, head of Asia-Pacific sovereign ratings at Fitch, told Reuters in an interview that China's local currency debt rating could face a downgrade over the next 12 to 24 months.

We expect a material deterioration in bank asset quality, he said. If the problems in the banking system pan out as we expect or are even worse over the next 12 to 24 months, then that would incline us to take the rating downwards.

Fitch downgraded the outlook on China's long-term local currency debt to negative from stable in April because of concerns about the country's financial stability after a lending surge over the past two years.

Fitch's China rating is AA minus, its fourth highest level.

China reported local government debt of 10.7 trillion yuan as of the end of 2010. More than 347 billion yuan in urban construction investment bonds were issued in the five years to 2010.

The rating remains at relatively high levels, and that is because there are a number of factors that give us comfort, Colquhoun said.

One is the strength of the sovereign balance sheet, the second is if we look at the banks, we do expect the problems to be confined to the asset side of the balance sheet, and asset quality problems are much easier to manage for the authorities than problems on the funding side.

Colquhoun also said there was a greater than even chance Fitch will downgrade Japan's credit rating because of the country's public debt, which is running at about twice the size of the $5 trillion economy.

We think the ratings on current trends are more likely than not to go down, Colquhoun said. To shore ratings up at their current level we need to see a credible fiscal consolidation plan.

Both Standard & Poor's and Moody's Investors Service have cut their credit ratings on Japan this year because of concerns about the country's high public debt.

(Reporting by Jonathan Standing; Writing by Neil Fullick, Editing by Dean Yates)