Understanding Fiscal Revenue and Expenditure

Fiscal revenue and expenditure provides a record of what is received in taxation and what government spends. This, in itself, gives an insight into overall fiscal policy. In general terms, the government tends to spend more when it is concerned about growth slowing and tax more when it is concerned about things overheating. In this way, it is also a barometer for the overall health of the economy, as revenues should increase when things are going well and decrease when things are going badly – or when people expect them to go badly. This data tends have an impact on stock prices in China and on commodity markets as profits and demand for raw materials will be affected by these numbers.

The figure is also of use in identifying what the government sees as priorities and which issues they are taking seriously. For example, China has committed itself to reducing its dependence on external markets by increasing domestic demand. In order to this, it must free up consumer spending from financial sinkholes such as medical bills, education and social security by providing more of these social goods via government spending. Looking at the data for recent years, although spending on these sectors as increased, China is still behind many other developing nations in these respects.  

There are however a number of considerations that should be taken into account when interpreting this data. Firstly, it is important to understand that this figure also has its own seasonal fluctuations. Although this time it is not due to national holidays, but national accounting. As the year progresses, local governments tend to save their revenues and then to withdraw them as the year draws to end to prevent them being appropriated by the central government leading to a surge of spending in December.

Additionally, using this data as a way of measuring national debt, for example, is problematic because it greatly underestimates the real figure. This is partly because local governments are adept at borrowing indirectly and hiding the real figure, in particular through such schemes as Local Government Financing Vehicles (LGFV).

According to the most recent audit by the China Banking Regulatory Commission, municipal authorities owed lenders somewhere in the region of 9.7 trillion CNY, or 1.6 trillion USD. The audit, the results of which were timed to coincide with the start of last year’s major Third Plenum meeting, highlights just how much of an issue local borrowing has become in China—and just how seriously it is viewed by the central government.

To understand this, it’s first important to understand how the debt is structured. After local governments were forbidden from borrowing directly in 1994, a proliferation of local ‘holding companies’ – or local government financing vehicles (LGFV) – ostensibly owned by or on behalf of local governments, emerged to circumvent the restrictions.  And over time, according to the most recent audit, these holding firms became responsible for 45 percent of local government’s debt payment.

The purpose of these holding companies, in theory, was to undertake local infrastructure investment, which local authorities viewed as essential for meeting growth targets – the primary yardstick of political performance for government functionaries in China. After the 2008-9 global financial crisis, this process accelerated as exporters saw foreign markets dry up.

An additional layer is the bonds that were issued by the Ministry of Finance during the bank bailout in the late 1990s. At the time, a round of State-owned enterprise closures across China, part of a nationwide effort to reform the economy, forced many local banks to acknowledge that outstanding loans would never be repaid. As non-performing loan ratios skyrocketed officials created four asset-management companies one for each of the big four banks, to buy the bad debt off their books – partly so the banks could be listed on overseas stock exchanges.

The initial investment to set up this initiative is estimated to have cost in excess of 150bn CNY, with a further 2 trillion CNY (roughly 240bn USD) financed through the issuance of ten-year bonds. These ten-year bonds were then purchased by the banks in question, in part using capital raised through their overseas listings. As these bonds expired with almost none of the NPLs recovered, the bonds were rolled over for another decade. Adding these debts to the mix increases the total debt by about an additional 8 percent of GDP

On top of this, the Ministry of Railways revealed 1.8 trillion CNY of debt (another 5 percent of GDP) in 2011, primarily accrued financing China’s high-speed rail network. Given all the off-balance liabilities, including its stimulus package, China’s total debt-to-GDP ratio is probably closer to 75 percent; significantly higher than the official figure of around 18 percent. However as a rough, relative guide to public finances, the headline figures are of value.