S&P made ‘wrong decision’, says China, on back of rating cut

Standard & Poor’s rating agency cut China’s credit rating on Thursday, and the nation’s Finance Ministry isn’t happy.

The ministry said on Friday that the rating agency made the “wrong decision” and that the cut doesn’t reflect the country’s economic strength.

Earlier this week, S&P cited rising debt in China that’s increasing financial risk. The move to cut the nation’s credit rating came after warnings that China’s debt burden might drag on economic growth or threaten the financial system. It also followed a similar downgrade by Moody’s Investors Service in May.

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Nonetheless, the timing is awkward for the ruling Communist Party, which wants to project an image of stability ahead of a twice-a-decade congress next month at which President Xi Jinping is due to be named to a second five-year term as leader.

S&P followed its China downgrade a day later by cutting its credit rating for Hong Kong, citing risks posed by their close ties. The agency said Friday it was reducing its long-term rating on Hong Kong by one notch, to AA+ from AAA, reflecting potential spillover risks.

It said Hong Kong has a good economic outlook, sizeable fiscal reserves and credible monetary policy, but that China’s downgrade is “exerting a negative impact” on Hong Kong because of “strong institutional and political ties” between them.

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Still, China’s Finance Ministry has complained S&P ignored China’s stable economic growth and reform efforts. It noted official data showed the economy grew by 6.9% in the first half of 2017 over a year earlier and government revenue rose by nearly 10%.

“The Standard & Poor’s downgrade of China’s sovereign credit rating is a wrong decision,” the ministry said on its website. “This misreading neglects China’s good fundamentals and development potential.”

Total Chinese nongovernment debt rose last year to the equivalent of 257% of annual economic output, according to the Bank for International Settlements. That is unusually high for a developing country and up from 143% in 2008.

Communist leaders have cited reducing financial risk as a priority this year. They have launched initiatives to reduce debts owed by state companies, including by allowing banks to accept stock as repayment on loans. But private sector analysts say they are moving too slowly.

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S&P lowered its rating on China’s sovereign debt by one notch from AA- to A+, still among its highest ratings.

“A prolonged period of strong credit growth has increased China’s economic and financial risks,” said S&P in a statement. That has supported economic growth but “also diminished financial stability to some extent.”

The downgrade could raise Beijing’s borrowing costs slightly but is more significant for its impact on investor sentiment.

“The new rating is still squarely investment grade — there is no real concern about the possibility of default,” said Mark Williams of Capital Economics in a report.

“However, credit continues to expand at a faster pace than output, which points to significant ongoing misallocation of resources,” said Williams. “State sector reforms have continued to disappoint and so the hidden risks on bank balance sheets have continued to build.”

Chinese economic growth fell from 14.2% in 2007 to 6.7% last year, though that still was among the world’s strongest.

The government is trying to make the economy more productive by giving market forces a bigger role. It is trying to shrink bloated industries such as steel and cement in which supply exceeds demand, which has depressed prices and led to financial losses.

Beijing is trying to steer the economy to slower, more sustainable growth based on domestic consumption instead of investment and exports. But growth has dipped faster than planners wanted, raising the risk of politically dangerous job losses. Beijing has responded by flooding the economy with credit.

Official efforts to rein in debt “could stabilize the trend of financial risk,” S&P said. “However, we foresee that credit growth in the next two to three years will remain at levels that will increase financial risks gradually.”