Commentary on Political Economy

Thursday 22 August 2019


In one of China’s poorest provinces, mountainous Guizhou, millions of lives have been transformed by an unprecedented infrastructure spending spree. At Evergrande Happiness Number 33 Village — named after the now highly indebted real estate company that built it — several hundred farmers were persuaded two years ago to leave the cornfields and mud-floored homes of their ancestral hamlets and move to the newly constructed settlement. Along with the change of housing came the promise of jobs in a booming construction sector. Infrastructure investment in Guizhou has grown 20 per cent annually over the past five years with the state adding high-speed railways, nearly half of the world’s 100 tallest bridges and a motorway network to rival France’s. “The houses are good but there is no work to do in the village,” said Yan Hengfu, a resident of the Evergrande settlement. “So the men have to find part-time jobs in construction.” 

Today, however, the surge in government infrastructure investment that brought this new prosperity is under threat. After being an important driver of Chinese economic growth and jobs over the past decade, national infrastructure investment growth has fallen to historic lows. It grew 2.8 per cent year-on-year in July compared with 17 per cent the same month just two years earlier, according to official statistics.  The drop in infrastructure investment is part of the reason China’s GDP growth is slowing. The economy expanded 6.2 per cent year on year in the second quarter, its slowest pace in nearly 30 years. That has ramifications for the global economy — especially for commodities used in construction. While the US’s deepening trade war with China has weighed on exports and consumer sentiment, most economists agree that the bulk of the slowdown is a result of Beijing’s battle to keep debt levels under control.  “Slower growth may become the new norm of China’s infrastructure investment in the future,” said Betty Wang, a China economist at Australian bank ANZ. Infrastructure spending is generally funded by the issuance of local government bonds that are mostly bought by state banks, helping to push China’s government debt up to 73 per cent of GDP last year, according to the IMF.

Beijing has responded by clamping down on debt issuance. The downside has been slowing infrastructure spending. Last year, fixed asset investment growth slowed to 0.7 per cent year-on-year from 5.7 per cent in 2017. The change was “largely due to weaker infrastructure investment amid the tightening of local government investment vehicles”, according to Louis Kuijs of Oxford Economics, a consultancy. He added that Beijing managed to stabilise total debts in the economy last year. The ratio of total government debt to GDP in Guizhou was the highest in China last year at 170 per cent, according to Houze Song of the Paulson Institute, a US think-tank. Many farmers in Guizhou, as well as elsewhere in the country, have swapped their land for accommodation in new developments and work in the construction industry.

But many of the investments are lossmaking as the revenue they generate is less than their cost of borrowing. Losses last year were equivalent to more than 12 per cent of Guizhou’s GDP, Mr Song estimated.  “Guizhou’s investment has been way ahead of its needs. There is a large gap between the supply of infrastructure and the demand,” said Mr Song.  While few expect Beijing to allow a province such as Guizhou to go bankrupt — it can increase fiscal transfers to regional governments and encourage state banks to roll over debt — the central government has sent a clear message to slow the issuance of new debt at a local level throughout the country. As a result, infrastructure investment this year has contracted in some regions. In the central province of Hunan, one of the worst hit in China, officials said infrastructure spending fell 5 per cent year-on-year in the first half. In contrast, infrastructure investment in Guizhou still grew by 12 per cent year-on-year in June — but that was down from 17 per cent a year before, according to government data. In the face of the trade war, Beijing has announced a measure of greater fiscal support for the economy, increasing the quota for local governments to issue “special” bonds for infrastructure projects by Rmb800bn ($113.2bn) earlier this year, while the central government has vowed more investment in rail, road and water projects. 

But the central government has signalled there will be no further bond quota increases and has introduced tax cuts reducing local government revenues. ANZ’s Ms Wang said there was a shrinking number of projects with good returns for officials to choose from, while Beijing remained concerned about local government debt. “These factors provide little incentive to local governments to actively promote infrastructure projects as officials fear they could be putting their political careers at risk,” she said. For the moment in Guizhou, there are still plenty of construction jobs to be found. But former farmers such as Mr Yan, who lost their land when they moved to the new housing, may be wishing they had not abandoned their ploughs so quickly. 

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