• The Washington Post


China’s economy, fueled by credit and government debt that has increased far faster than official statistics reflect, is heading in an “unsustainable” direction that poses major risks in the years ahead, the International Monetary Fund reported Wednesday.

In one of its sharpest critiques of the world’s second-largest economy, the IMF characterized China at a crossroads: nearing the limits of what it can gain from its reliance on consumer and industrial exports and in need of a dramatic round of restructuring to put more of the country’s wealth in the hands of families and private businesses.

China’s economic growth remains strong and is likely to remain near or above the 7.5 percent targeted by authorities. But the IMF noted growing risks in a heavily regulated financial sector that is showing signs of strain, including what the fund termed “large-scale regulatory arbitrage and moral hazard” as families and businesses try to subvert the low rates of interest the government allows banks to pay on deposits. That has given rise to an explosion in what the fund termed alternative “wealth management products” — marketed by banks to attract deposits but invested in “opaque” ways that seem reminiscent of the bundled mortgages that caused the U.S. financial crisis.

While the fund said the use of “WMPs” is not yet at crisis levels, it is part of an overall boom in credit, government debt and new financial products that the IMF said may be outrunning the government’s capacity to regulate.

In one particularly telling statistic, the IMF said that total government debt in China may be as much as double that reflected in official data, once money borrowed by local officials is taken into account.

The fund estimated that combined debt at 45 percent of China’s overall economy — compared to the official government debt of roughly 22 percent of gross domestic product. The figure has been growing rapidly in recent years as local officials borrowed heavily for infrastructure and other investments pursued to keep the economy afloat.

The fund said the figure is not in itself alarming, because many of the investments are backed up by tangible assets or produce income, and China itself is flush with financial resources to cover any problem. But the rapid growth and lack of transparency are a concern.

The issue of local debt is a sensitive one in China’s closely controlled communist system, because it is not clear at the end of the day what responsibility rests with the central government to repay it or what happens if a major province or major state-owned company gets into financial trouble.

“We are confident we have hit the right order of magnitude,” in estimating total government debt, said Markus Rodlauer, head of the IMF’s China mission. “The question out there is who in the end will be responsible. We are not answering that.”

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