The surge in debt in China has the potential to cause a major crisis without “decisive policy action” to deflate an ongoing credit boom, the International Monetary Fund (IMF) warned today.
In a report on risks facing the world’s second largest economy, the IMF said the rapid expansion in credit in recent years has helped fuel growth, but that it could cause chaos if left unchecked.
“International experience suggests that China’s credit growth is on a dangerous trajectory, with increasing risks of a disruptive adjustment and/or a marked growth slowdown,” the report said.
Chinese growth has been the main driver of the global economy since the global financial crisis began a decade ago as more advanced economies have struggled.
However, in recent years the concerns around a potential debt bubble in China have grown. The IMF calculates that its rapid GDP growth is currently unsustainable and would have been more than a percentage point slower if credit expansion had not been “excessive”.
In June the influential central bankers’ group, the Bank for International Settlements, said the next global crash could come "with a vengeance", if China’s levels of credit are not addressed.
The IMF echoed that warning. While some factors, including a high savings rate and a current account surplus, could help to stop financial chaos in the near term, “if left unaddressed, these factors will likely not eliminate the eventual adjustment, but only make the boom larger and last longer.”
The Chinese government should abandon its high GDP growth targets in an effort to stop debt levels rising further, the IMF said.
If the government does not change course, the credit-to-GDP ratio will increase to more than 290 per cent by 2022, the IMF added.
Policymakers should also act to reduce the complexity of short-term funding structures, the IMF said. A similar increase in the opacity of company funding and debt instruments was a key contributor to the freeze in credit markets during the global financial crisis, as investors struggled to calculate their exposures to risky debt.