Due to increasing risks from the country’s rapid build-up of credit, S&P Global Ratings downgraded China’s long-term sovereign credit rating by one notch on Thursday to A+ from AA-.
“The downgrade reflects our assessment that a prolonged period of strong credit growth has increased China’s economic and financial risks,” S&P said in a statement, adding that the ratings outlook was stable.
In recent times, the Chinese government has bene grappling with the challenges of containing financial risks stemming from years of credit-fuelled stimulus spurred by the need to meet official growth targets, this is the second downgrading of its economy having preceded a similar demotion by Moody’s Investors Service in May.
And in just about a month’s time a key leadership reshuffle in the Communist Party there is expected as a highly sensitive twice-a-decade Communist Party Congress is to be held and this downgrade comes less than a month ahead of that event.
China’s domestic debt dynamic is a long-standing issue that most investors are already well aware of, said Stephen Gallo, European head of FX strategy at BMO Financial Ground.
“To be sure, the move by S&P this morning merely brings the ratings agency into line with where Moody’s and Fitch already were (i.e. 4 or 5 notches below triple-A). Therefore, the direct economic/market impact of today’s decision by S&P is low.”
Because of the fact that restrictions on outbound flows are still relatively tight, this is not going to necessarily see direct translation into a weaker currency, Gallo further explained.
“If anything, the decision by S&P highlights the degree to which China will aim to keep leverage growth within the domestic economy low-to-moderate as opposed to high. This means that neither onshore rates nor the RMB are likely to drop sharply as a result of today’s news.”
Even though China’s first-half economic growth beat expectations, concerns about China’s sustained strong credit growth appear to be increasing.
While there was little reaction from the yuan to the downgrading, China’s stock markets were already closed Thursday when the downgrade was published.
In the medium-term, financial risks could stabilize due to the recent efforts by the government to reduce corporate leverage, S&P said.
“However, we foresee that credit growth in the next two to three years will remain at levels that will increase financial risks gradually,” S&P said.
S&P also lowered China’s short-term rating to A-1 from A-1+.
(Adapted from CNBC)