Fitch Ratings has cut its outlook on China's sovereign credit rating from "stable" to "negative," citing increasing risks to the country's public finances as it navigates a challenging economic transition. The move follows a similar downgrade by Moody's in December and comes as Beijing ramps up efforts to stimulate a sluggish post-COVID recovery in the world's second-largest economy.
"Fitch's outlook revision reflects the more challenging situation in China's public finance regarding the double whammy of decelerating growth and more debt," said Gary Ng, senior economist at Natixis Asia-Pacific. "This does not mean that China will default any time soon, but it is possible to see credit polarization in some local government financing vehicles (LGFVs), especially as provincial governments see weaker fiscal health."
The rating agency expects China's explicit central and local government debt to rise to 61.3% of gross domestic product (GDP) in 2024 from 56.1% in 2023, a significant increase from 38.5% in 2019. The country's general government deficit is also projected to climb to 7.1% of GDP in 2024 from 5.8% in 2023, the highest level since 2020 when strict COVID curbs weighed heavily on the economy.
Fitch affirmed China's issuer default rating at 'A+', its third-highest category, despite lowering the outlook to negative. The agency forecasts China's economic growth to slow to 4.5% in 2024 from 5.2% last year, while the International Monetary Fund expects the country's GDP to grow by 4.6% this year.
The downgrade warning comes despite tentative signs that China's economy is finding its footing, with factory output, retail sales, exports, and consumer inflation indicators topping forecasts in recent months. These data points have bolstered Beijing's hopes of achieving its ambitious GDP growth target of around 5.0% for 2024.
"The outlook revision reflects increasing risks to China's public finance outlook as the country contends with more uncertain economic prospects amid a transition away from property-reliant growth to what the government views as a more sustainable growth model," Fitch said in a statement. "Wide fiscal deficits and rising government debt in recent years have eroded fiscal buffers from a ratings perspective. Contingent liability risks may also be rising, as lower nominal growth exacerbates challenges to managing high economy-wide leverage."
China plans to run a budget deficit of 3% of economic output in 2024, down from a revised 3.8% last year. The country also intends to issue 1 trillion yuan ($138.30 billion) in special ultra-long term treasury bonds, which are not included in the budget, while the special bond issuance quota for local governments is set at 3.9 trillion yuan, up from 3.8 trillion yuan in 2023.
The planned treasury bond issuance signals Beijing's willingness to shoulder a higher share of the burden in meeting growth targets, as local governments struggle with slower fiscal revenues and depressed land sales. "The Fitch revision has reflected the fundamental concern over China's fiscal health and its ability to drive growth in the long term," said Dan Wang, chief economist at Hang Seng Bank China. "With lagging private investment, state-backed funding has become even more important in driving growth, either in terms of infrastructure spending or in local government guidance funds for high tech industries."
In response to Fitch's announcement, China's Finance Ministry has openly criticized Fitch Ratings' recent decision to downgrade the country's fiscal outlook to negative while retaining its A+ sovereign debt rating. The ministry disputes Fitch's analysis, emphasizing China's efforts to enhance government spending quality and efficiency.
"It's a pity that Fitch downgraded its sovereign debt and failed to consider Beijing's moves toward 'appropriately intensifying, improving quality and efficiency' of its government spending," the ministry stated, expressing its dissatisfaction with the rating agency's assessment.
