Source: Caixin.
Author: Yan Jun

On November 8, the General Office of the National People's Congress held a press conference, where the Standing Committee of the National People's Congress approved an increase of 6 trillion yuan in the local government debt limit to replace the existing hidden debts. This is seen as the first step towards the "fiscal incremental policy" that A-share investors have been anticipating.

Minister of Finance Lan Foan also announced that starting from 2024, China will allocate 800 billion yuan each year for five consecutive years from the new local government special bonds, specifically for bond conversion, totaling 4 trillion yuan to replace hidden debts. In addition to the approved 6 trillion yuan debt limit by the Standing Committee of the National People's Congress, it directly increases the local bond resources by 10 trillion yuan.

Apart from the 10 trillion bond resources, this meeting did not involve the content of various versions of short essays. 'Whether it meets expectations' suddenly became the focus of market attention.

How do brokerage firms, public funds, and other professional institutions view this long-awaited meeting? Why is there a large-scale increase in local government debt quotas to replace existing hidden debts? What kind of impact will the relevant policies bring to the market after their introduction? Several brokerage chiefs and public fund companies have provided interpretations at the earliest opportunity.

Why the need for large-scale replacement of existing hidden debts?

At the press conference after the National People's Congress Standing Committee, a series of heavyweight policies centered on local bond debt were announced. These policies overall aim to reduce the local implicit debt that needs to be absorbed by 2028 from 14.3 trillion to 2.3 trillion, significantly alleviating the pressure of local bond debt. Why such a large-scale bond issuance?

"It is necessary, and very timely." Pan Hongsheng, Chief Economist of CSI 800 Financials and Real Estate Index, commented that for some time, due to changes in the internal and external economic environment, the financial pressure on local finances has significantly increased, and the issue of local debts, especially hidden debts, has received great attention from society. This replacement plan provides clear replacement scale, progress arrangements, and relevant institutional arrangements, which can effectively alleviate the current debt pressure of localities, reduce interest burdens, help local governments better maintain operations, safeguard people's livelihoods, and promote development. At the same time, this measure gives clear policy expectations to relevant market entities, which helps stabilize and strengthen market confidence.

Furthermore, Pan Hongsheng explained that over the past decade, from State Council Document No. 43 in 2014 to Document No. 27 in 2018, the management of local government debt has gradually improved from explicit to implicit, from emergency to normalized supervision, and from decentralized to unified, comprehensively enhancing the government debt management system.

Ming Ming, Chief Economist of CITIC Securities, stated that fiscal support for bond issuance can play a role in boosting investment and consumption capabilities, promoting economic recovery and improvement by supplementing local finances and increasing household and business incomes. On one hand, by increasing local debt quotas, allowing special bonds to be used for bond issuance, the pressure of local debts will be significantly alleviated, freeing up resources that were originally occupied by bond issuance, enhancing guarantees in areas such as people's livelihoods and the "three guarantees", and improving income expectations of residents. On the other hand, intensifying bond issuance efforts helps to clear local overdue business debts, enhance corporate confidence and vitality, increase corporate incomes and profitability. Improved income expectations for residents and businesses will effectively boost consumption and investment demand, thereby creating a positive feedback loop and leveraging the fiscal multiplier effect.

Luo Zhiheng, Chief Economist and Dean of Research Institute at Yuekai Securities, also stated that overall, the scale and intensity of debt replacement in this instance are significant, reflecting the development of issuing bonds and the strategy of saving through time. It also indicates the determination of the central government to resolve local government debt risks and drive economic growth.

In Luo Zhiheng's view, under the dual background of significant debt pressure and economic development tasks faced by local governments, a new round of debt restructuring is of great significance. There are four meanings for the government:

First, debt restructuring realizes the explicitness of some implicit debts, making debts more open and transparent.

Second, by replacing high-cost, short-term implicit debts with government bonds with lower interest rates and longer maturities, debt restructuring exchanges debt for space, thereby reducing risks. The process of debt restructuring is also a risk reduction process, reflecting that the essence of debt restructuring is risk mitigation.

Third, debt restructuring alleviates the debt pressure on local governments, enabling them to free up more financial resources and energy for economic development and the provision of public services.

Fourth, debt restructuring helps local governments better implement tax reduction and fee reduction. The phenomenon of arbitrary fines and charges in some regions will be significantly alleviated or even eliminated, improving the business environment.

For urban investment companies, debt restructuring helps them shed historical debt burdens, travel light, and provide a solid foundation for the transformation and development of urban investment companies. Through debt restructuring, urban investment companies can systematically divest themselves of implicit debts, achieve a clear distinction between debt responsibilities for the government and platforms, namely, "the government's belongs to the government, and the platforms' belongs to the platforms", thereby reducing debt burdens and enhancing financial stability. Through this measure, urban investment companies can invest more energy and resources into the development of operational business, focus on improving their operational efficiency and profitability, and lay the foundation for the successful transformation of urban investment companies.

Reduced debt pressure, capital market risk appetite is expected to increase.

CITIC Pru Fund evaluates that the content of debt restructuring in this press conference will have significant positive implications for maintaining stable and healthy development of China's economy in the coming years, also benefiting the stock market.

Citic Prudential Fund stated that, first, the arrangement of debt restructuring eliminates some constraints that local governments had on economic development. In the past period, there has been significant downward pressure on local government revenue (taxes, land transfer fees). Under this pressure, there is still a need to resolve hidden debts, while balancing local economic development, which has many constraints and is quite challenging.

According to Citic Prudential Fund research, there is a significant positive correlation between the CSI 300 index and local government fiscal expenditure capacity: on one hand, stronger local government expenditure capacity enhances the promotion effect on economic growth and industrial development, leading to improved corporate profits. On the other hand, the policy expectations of stimulating economic growth will significantly increase the risk appetite in capital markets, boosting valuations.

Secondly, it clearly expresses that our country's government still has considerable borrowing space. Minister of Finance Lan Foan stated that the central government still has considerable borrowing space and deficit expansion space, actively planning the next step of fiscal policy and increasing countercyclical adjustments. In addition, Minister Lan disclosed government debt data of market concern. By the end of 2023, China's total government debt was 85 trillion yuan, including central government debt of 30 trillion yuan, local government legal debt of 40.7 trillion yuan, hidden debt of 14.3 trillion yuan, and a government debt ratio of 67.5%. This will have a positive effect on stabilizing capital market expectations and confidence.

Thirdly, it provides a perspective on the future direction and methods of proactive fiscal spending. In terms of usage direction, policies mentioned include real estate tax revenue policy, real estate collection and storage, local government debt restructuring, supplementing capital for large commercial banks, equipment upgrades, consumer goods renewal, etc. In terms of potential methods, there is room for deficit ratio increase, expansion of special bond issuance scale, continued issuance of ultra-long-term special national bonds. Although specific numbers were not mentioned in this press conference, it is expected that relevant content will be eagerly anticipated in subsequent Central Economic Work Conferences.

Liquidity improvement drives bond-like assets and pro-cyclical asset repair resonance, focusing on three types of opportunities.

From the final outcome of the meeting, the 6 trillion limit for local debt replacement to swap out outstanding hidden debts in the fiscal policy basically meets expectations. However, due to previous market speculation, short-term sentiments may subside. Long-term wise, with the complete shift in policy attitude at the end of September, fiscal policy still has a stabilizing effect, and the domestic macroeconomy is expected to see an overall weak recovery trend. Institutions believe that liquidity improvement will drive bond-like assets and pro-cyclical asset repair resonance.

Regarding A-share sectors, Bosera Fund believes that in the midterm, attention can still be placed on three types of opportunities:

First, under the backdrop of economic recovery, demand-driven and pro-cyclical assets that are expected to achieve fundamental and valuation repair, China's economy is currently in a significant recovery phase. Pro-cyclical industries closely associated with economic trends, such as consumer and real estate chains, are expected to experience a turnabout.

Secondly, under the main theme of high-quality development of the Chinese economy, and with the dust settling from the U.S. election, policy-driven technology sectors have become one of the consensus choices for A-share investors, including subdivisions such as the independent controllable industry chain, the Huawei chain, and the Siasun Robot&Automation industry chain.

Thirdly, based on the policy emphasis of this meeting: bond reduction, the central future interest rate is expected to remain low. In terms of the relative price-to-dividend ratio of stock and bond yields, high dividend stocks are also worth paying attention to.

In addition, it is also recommended to avoid short-term uncertainties by increasing the export chain, energy sector, etc.

There is still room for future incremental policies.

A series of policies are still ongoing, clearly indicating that there is still room for further incremental fiscal policies in the future. Policies being expedited by the year's end include: a series of real estate-related tax policies, special bonds to support the recycling of idle land, additional land reserves, and acquisitions of existing commercial properties. Issuance of special national bonds to supplement the core Tier 1 capital of large state-owned commercial banks is also being accelerated. There are five major incremental spaces for active fiscal policies next year: first, the central government's borrowing and deficit ceiling increase; second, expanding the scale and scope of special bond issuance, increasing the proportion used as capital; third, super long-term special national bonds; fourth, increasing support for the "two new, two heavy" industries; and fifth, increasing the scale of central-to-local transfer payments.

Regarding the directions and key points to focus on in the next stage, Pan Hongsheng stated that the arrangement of 8.4 trillion yuan of local bond resources for the next three years has a clear problem orientation, demonstrating a significant boost. Incremental fiscal policies supporting the healthy development of the real estate market, supplementary special national bonds to large state-owned commercial banks’ core Tier 1 capital, and other areas are expected to be introduced. The proactive fiscal policies in 2025 are expected to continue to increase efforts in expanding special bond issuance and direction, supporting long-term national bond issuance in strategic and key areas, and encouraging significant investment and consumption in key areas such as large-scale equipment upgrades.

Soochow Fund pointed out that after the NPC Standing Committee meeting on November 8, special attention would still be needed on the Central Economic Work Conference in December for the work arrangements for 2025. The growth target for next year will significantly influence market expectations. Moreover, the actions Trump may take after taking office are not entirely predictable, and external factors will still cause some disturbances to the A-share market. Therefore, from an overall perspective, the A-share market is expected to enter a recovery cycle in the medium to long term under the support of policies, with policy strength potentially translating into a turnaround in corporate profits.

Editor/Jeffy