China's credit downgrade could spook equity and bond investors, economists say

Moody's warned China's financial strength will "erode somewhat" as growth slows and said its debt will continue to surge.

Moody's lowered its sovereign rating for China from "Aa3" to "A1" and changed the outlook from negative to stable today.

"While ongoing progress on reforms is likely to transform the economy and financial system over time, it is not likely to prevent a further material rise in economy-wide debt, and the consequent increase in contingent liabilities for the government", according to Moody's.

World stocks inched lower after the move, though Shanghai's main index .SSEC recouped early losses to end marginally higher.

The ministry also refuted Moody's expectations that China's government debt-to-GDP ratio would rise to 40 percent in 2018.

"The stable outlook reflects our assessment that, at the A1 rating level, risks are balanced", it said in its ratings note.

Nevertheless, the rating will raise financing costs and risks for China investors, Yi Xianrong, a finance expert and the former director of the Finance Institute at the Chinese Academy of Social Sciences, told dpa.

Standard & Poor's rates China's debt AA-, the agency's fourth-highest level.

Global banking and financial advisory provider Macquarie, "This news is a clear China negative in our view (even though the rationale for the downgrade contained nothing new)", and "The next question is whether S&P will follow Moody's".

China's economy grew 6.9% in the first quarter of this year, picking up the pace from the end of 2016.

The Chinese finance ministry criticized the decision.

"China's debt downgrade by Moody's has made investors a little less sure of themselves", said Jasper Lawler, senior market analyst at London Capital Group. Still, the move underscores broader doubts over whether President Xi Jinping's government can simultaneously cut excessive leverage and steady growth, all with a twice a decade reshuffle of top party posts looming later this year. China's National Development and Reform Commission (NDRC) said debt risks were generally controllable as measures to lower corporate leverage had achieved initial results, and systemic risks from debt were relatively low. 'A psychological blow'Christopher Balding, an associate professor at the HSBC School of Business at Peking University in Shenzhen, described the downgrade as "a psychological blow that China will not take kindly to and absolutely speaks to the rising financial pressures".

The dollar was boosted as USA debt prices fell, with the benchmark 10-year Treasury note yield climbing 3 basis points overnight and putting some distance between the one-month trough reached last week in a bond-buying flight to safety.

"The downgrade will certainly affect China negatively", Liao Qun, Hong Kong-based chief economist of Citic Bank International, told AFP.

The ratings of the firms, which are ultimately owned by the government, were revised down by one notch, Moody's said in a statement.

  • Zachary Reyes