Moody's Downgrade Highlights China Fears

Shanghai: Hong Kong shares followed Asian markets higher on Thursday, even after Moody's downgraded Hong Kong's local and foreign currency issuer ratings shortly after cutting China's ratings on Wednesday.

"We expect direct government, indirect and economy-wide debt to continue to rise, signalling an erosion of China's credit profile", Moody's said in a statement.

Most investors were not taken aback by China's downgrade from an Aa3 credit rating to an A1 on Wednesday, arguing that markets were similarly prepared for such a move.

The downgrade places China in the same credit rating bracket as Saudi Arabia, Japan and Israel.

Chinese officials have said that Moody's analysis is based on the use of an "inappropriate methodology". "To a certain extent, [Moody's] overestimated the difficulties faced by China's economy, and underestimated the Chinese government's ability to deepen the supply-side structural reform and to moderately increase aggregate demand", it said in a statement (link in Chinese).

Mei said China's economic performance this year had exceeded market expectations and criticized Moody's for including debt at state-owned enterprises (SOEs) and local government financing vehicles as indirect government liabilities.

The company attributed the downgrade to the potential increase of China's economy-wide leverage over the coming years. But the country's economy has picked up since the second half of 2016, with its GDP growth reaching 6.9 per cent in the first quarter of this year.

Standards & Poor's, a rival of Moody's, downgraded its outlook during the same month to negative for China.

"None of the things that Moody's is talking about, right, has any merit outside the strict interpretation of a pure capitalist economy and China is not a purely capitalist economy".

Government-led stimulus has been a major driver of China's growth over recent years, but has also been accompanied by runaway credit growth that has created a mountain of debt - now standing at almost 300 percent of gross domestic product (GDP).

But Moody's said it expects China's growth potential to decline to close to 5 per cent over the next five years, citing diminishing investment, an accelerated fall in the working age population and a continuing dip in productivity. In March 2016, Moody's revised down China's sovereign rating outlook to "negative", but China's economic performance turned out to be much better than projected.

And credit rating agencies have been discredited in the past - most notably when all of them failed to anticipate the 2008 global financial collapse. "The planned reform program is likely to slow, but not prevent, the rise in leverage".

"In recent years, rating agencies have maintained India's BBB- rating, notwithstanding clear improvements in our economic fundamentals (such as inflation, growth, and current account performance)", India's Chief Economic Advisor Arvind Subramanian said, PTI reported.

  • Zachary Reyes