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Ivan Zuenko

Research Fellow at the Institute of History, Archaeology and Ethnography of the Peoples of Far East, RAS Far Eastern Branch

The Chinese government is looking for a solution to its regional governments’ debt problems, a side effect of the Chinese economic miracle. This is not a disaster, as some say; the Chinese government is not under threat of collapse. But it does show that miracles come at a price.

Beijing has three probable solutions to this problem. First, debts could be translated into bonds and unprofitable government companies reformed without radical changes to the current system. Regional debts would remain, but local governments would be better able to achieve their development goals. Second, the center could “redeem” regional debts, although such a decision would harm the national banking system. What’s more, the unprofitable corporate sector is arguably a bigger problem, which might be worth solving first. Finally, the system could be recentralized by introduction of strict control over regional budgets and projects. However, centralized control of such a large and often corrupt system would be a major challenge, and might reduce motivation to work in the regions.

RIAC expert Ivan Zuenko wrote an article on the Chinese local governments’ debt and the crisis in regional governance. RIAC editing team prepared a short summary of the article for the English-speaking audience.

The Chinese government is looking for a solution to its regional governments’ debt problems, a side effect of the Chinese economic miracle. This is not a disaster, as some say; the Chinese government is not under threat of collapse. But it does show that miracles come at a price.

When the Chinese government began to implement economic reforms, it gave the regions freedom to choose and finance their own projects. By 1993, the regions provided 78% of the government’s budget, making central authority in the regions weak. In 1994, the fiscal system was reformed to reduce local budgets relative to the central one, though regions retained responsibility for social services. The center imposes requirements on the regions as well, such as low unemployment and absence of social tension.   Officials who achieve these goals are promoted; ones who do not may be fired. Therefore, the regions are under heavy pressure to achieve goals set by the center, but sometimes lack the funds to do so.

If a local budget is lacking, can be supplemented in three ways. First, extra levies and fees can be introduced; in some regions, such earnings are now higher than the regional budget itself. Second, local leaders can campaign for money from the central government for specific projects, adapting their rhetoric to reflect the current discourse in the center. The central government also has an equalizing policy, which sends money from rich eastern regions to poor western ones. However, even these sources of money are not enough to support all the regions’ projects, leaving them in debt nonetheless.

Since 1994, Chinese regional governments may not regulate their tax rates, take out loans, or issue bonds. They bypass this restriction by creating firms, called Local Government Financial Vehicles (LGVFs), to take these actions on their behalf. LGVFs have allowed the regions to hide their debt behind a rosy exterior of flourishing development. Now they have a collective debt of 28 trillion yuan.

Beijing has three probable solutions to this problem. First, debts could be translated into bonds and unprofitable government companies reformed without radical changes to the current system. Regional debts would remain, but local governments would be better able to achieve their development goals. Second, the center could “redeem” regional debts, although such a decision would harm the national banking system. What’s more, the unprofitable corporate sector is arguably a bigger problem, which might be worth solving first. Finally, the system could be recentralized by introduction of strict control over regional budgets and projects. However, centralized control of such a large and often corrupt system would be a major challenge, and might reduce motivation to work in the regions.

For Russia this debt crisis means one thing: it is not worth it to rely on local governments near the Russian border to attract “magical” Chinese investment. The plans and programs for international cooperation presented by regional officials should not fool anyone, because in fact their international activity is most often decorative, aimed at attracting Beijing’s attention. Russia should look for investment not in the regions, but in large Chinese companies, which have the capital and resources to finance and manage projects. These companies have little interest in far-flung regions or political agendas; they look for opportunities with net profit, transparent rules, and predictable behavior from partners.


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Poll conducted

  1. Korean Peninsula Crisis Has no Military Solution. How Can It Be Solved?
    Demilitarization of the region based on Russia-China "Dual Freeze" proposal  
     36 (35%)
    Restoring multilateral negotiation process without any preliminary conditions  
     27 (26%)
    While the situation benefits Kim Jong-un's and Trump's domestic agenda, there will be no solution  
     22 (21%)
    Armed conflict still cannot be avoided  
     12 (12%)
    Stonger deterrence on behalf of the U.S. through modernization of military infrastructure in the region  
     4 (4%)
    Toughening economic sanctions against North Korea  
     2 (2%)
 
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