Warning of China Debt Crisis Misplaced

Is the China debt bomb ticking? That's a question gaining global attention amid a new wave of rumors about a possible bursting of the country's debt bubble.

Pessimists warn China is on the verge of a debt crisis, citing concerns over the systemic risk from rising debt levels in the world's second largest economy, especially its local government loans.

Such a warning sounds familiar, having frequently been heard in past years, but it is misplaced.

To begin with, how serious is China's debt problem? Estimates vary.

A nation-wide audit conducted in 2011 by China's National Audit Office (NAO), the country's top auditing body, found local government debt totaled 10.7 trillion yuan (US$1.75 trillion) at the end of 2010, representing more than 26 percent of the year's gross domestic product (GDP).

In early June, a follow-up audit found that 36 local governments had taken on a total debt of 3.85 trillion yuan (US$629 billion) by the end of 2012, up 12.94 percent from 2010. Based on that sample, China's local government debt was estimated at 12 trillion yuan (US$1.97 trillion).

Beijing's critics often doubt the official figures, but estimates by Bank of America Merrill Lynch (BoFA) and Fitch were both not far away.

According to BoFA, China's local government debt was around 15-16 trillion yuan (US$2.5-2.6 trillion) at the end of 2012, still standing at a very low debt-to-GDP ratio of 30 percent.

When combined with central government debt, China's total debt measures 50 percent of GDP, a relatively healthy position compared to other highly leveraged economies like the United States and Japan, which have debt to GDP ratios of around 100 percent and 200 percent, respectively.

Even if the debt load is higher, as some pessimists claim, they ignore both the strength and resolve of the Chinese government to deal with it.

A debt crisis is not determined by the level of debt, but whether a country can afford it. There is no doubt that so far China can, given the fact the Chinese economy remains fundamentally sound and shows positive signs of adjustment.

Growing at an annual pace of more than 7 percent and with one of the world's highest saving rates, China is in a better position to repay its rising debt than nearly any other country, needless to say its neighbor Japan.

What's more, China's local government debt was primarily used for construction projects, which could stimulate economic growth and provide a kind of guarantee for bad loans, while indebted countries in the Western world borrow to cover social expenditures without economic return.

Equipped with sound finances and the world's largest foreign reserves, the Chinese central government has ample resources to bail out local governments and banks. With very little external debt, China is also less prone to foreign speculation.

This is not to say there is no problem. Beijing is taking the issue seriously and is ready to prevent a potential debt crisis, either local or nation-wide.

In the latest move to rein in local governments, Beijing launched a nation-wide audit last month to determine exactly what is lurking on their books.

For those speculators who invented a story about China's economic meltdown, they can be assured the debt bomb, which they helped make up, will be defused.