China's local government debt 'controllable'

China's local government debt now account for 30 percent of the country's total GDP, higher than the central government figure of 25 percent, said Zhu Min, a Chinese economist and the current deputy managing director of the International Monetary Fund (IMF).

In official statistics released in March, China's government debt was around 15-18 trillion yuan (US$2.44-2.93 trillion). Speculations claimed that the actual figure would be even higher.

Zhu said that central government debt level had been maintained at a relatively low level. While the excessive growth of local debt might be a potential risk he argued that the total volume was still within control.

However, according to the IMF deputy chief, China's local government debt is investment-oriented, different from other countries, meaning that it was caused by excessive spending and there is the capital to withstand it.

Zhu advised local governments to consider issuing bonds and increase liquidity to counter the debt problem, in line with common international practices. But beforehand, debts have to be matched with actual assets, and governments are eligible to issue bonds based on good-standing, profitable assets, in a bid to stabilize debts in the long term.

China recently announced it would allow asset securitization, "an important step forward" hailed by Zhu, who urged the market to spread risk more evenly.

The excessive local government debts are partly a result of the booming real estate sector, which at the same time has fostered the shadow banking system in China. Shadow banking is the collection of non-bank financial intermediaries that provide services similar to traditional commercial banks. In China, it also applies to commercial banks using financial and credit products – besides bank loans – to fund local companies and governments.

The size of the shadow banking sector in China is estimated at 36 trillion yuan (US$5.86 trillion), accounting for 69 percent of China's GDP. "If appropriate regulation is not in place, it will become a huge hidden risk to China's economy in the future," Zhu Min warned.

Shadow banking is often used to provide short-term funds to long-term assets, or it provides foreign currencies for assets calculated in the home currency – an important phenomenon in the latest international financial crisis. The long and complex financing chains make the entire system prone to risks.

However, Zhu Min still hopes for better regulation, in order to " reduce such mismatches."