Moody's Downgrades China's Rating, Bleak Expectations Follow

The news of the downgrade in China's long term local currency rating - one notch to an A1 rating from AA3 saw Chinese stockmarkets sell off by 1% for a while before they recovered, while the Australian dollar dropped by around 0.3% before steadying to trade around 74.50 U.S. cents.

The government's direct debt burden, which is now at a modest level of less than 40% of GDP, is expected to rise gradually towards 40% of GDP by 2018 and closer to 45% by the end of the decade, in line with the 2016 debt burden for the median of A-rated sovereigns (40.7%).

Moody's changed Hong Kong's outlook to stable from negative, denoting that the risks to the city's rating are balanced.

The state planner, the National Development and Reform Commission, added in a statement that China's debt risks are generally controllable as measures to lower corporate leverage have achieved initial results, and systemic risks from debt are relatively low.

Economy-wide debt in China is continuing to rise as "potential growth" slows, said the ratings agency.

The government has trimmed its growth target for this year to about 6.5 percent after it expanded 6.7 percent last year, the slowest growth rate since 1990.

In 2013, Fitch Ratings downgraded China's debt to A+ (the same as Moody's current rating), while the S&P gives China a slightly higher rating of AA-.

"We do not think that the reform effort will have sufficient impact, sufficiently quickly, to contain the erosion of credit strength associated with the combination of economy-wide leverage and slower growth", the agency stated.

Estimates of China's total non-government debt have risen from the equivalent of 170 percent of annual economic output in 2007 to 260 percent a year ago.

Craig Erlam, senior market analyst at foreign exchange firm Oanda, said the credit downgrade comes as no surprise.

The MOF pointed out another error in Moody's credit rating criteria as it mingled government debt with local government financing platforms and debt of State-owned enterprises. The rating has been reduced by one level from A1 to Aa3 and they describe the outlook as "negative" meaning that a further downgrade is likely within two year.

China's finance ministry accused Moody's of overestimating the risks facing its economy. The Ministry of Finance dismissed the report, saying Moody's used "inappropriate methods" that prevented it from accurately reporting the country's true financial situation. SOE debt in China now stands at a rate of 115% of GDP. '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".

  • Zachary Reyes