China probes exposure of HK units of banks, insurers to local government debt, sources say

By Thomson Reuters Mar 14, 2024 | 6:18 AM

By Selena Li and Summer Zhen

HONG KONG (Reuters) – China’s financial sector regulator is looking into the exposure of the Hong Kong units of domestic banks and insurers to the country’s local government debt, three sources with knowledge of the matter said, as part of its efforts to contain credit risks.

The National Financial Reporting Authority (NFRA) asked the Hong Kong-based units of Chinese banks and insurers this week to report their holdings of dollar debt issued by so-called local government financing vehicles (LGFV), said the sources.

The regulator mainly asked them to reveal their exposure to offshore bonds issued by the LGFVs, set up by Chinese local governments to fund infrastructure investments, with a 364-day duration, said two of the sources.

The second half of last year saw a rush by many LGFVs to raise 364-day offshore bonds, seemingly in a bid to circumvent regulation that requires them to seek approval for borrowing outside China with maturities longer than a year.

Roughly $9 trillion worth of local government debt poses a major risk to the world’s second-largest economy and the country’s financial stability, economists say, amid a deepening property crisis and years of over-investment in infrastructure.

Beijing has rolled out several measures to reduce local government debt risks, including instructing some of the heavily indebted municipalities to delay or halt some state-funded infrastructure projects, Reuters reported in January.

All the sources declined to be named on the regulatory probe as they were not authorised to speak to the media.

The NFRA did not immediately respond to a Reuters request for comment. Bloomberg first reported the regulatory move on Thursday.

It was not immediately clear what action, if any, the financial sector regulator will take after completion of the scrutiny into the exposure of the Hong Kong units of Chinese banks and insurers.

Chinese LGFVs have found onshore financing challenging and turned to offshore funding channels in recent years.

The funding vehicles, however, have to seek approval from regulators such as the National Development and Reform Commission (NDRC) for offshore debt issuance, unless the tenor of the bond is less than a year.

The NDRC in January 2023 said offshore debt financing with maturities of less than one year did not need approval, which led to 27 offshore LGFV bonds with a duration of 364 days being issued in 2023, data from TianFeng Securities showed.

The regulators closed the regulatory loophole by asking the LGFVs to stop issuing offshore bonds with a 364-day duration, after the surge in issuance, Reuters reported in January, citing sources familiar with the matter.

(Reporting by Selena Li and Summer Zhen in Hong Kong, additional reporting by Ziyi Tang in Beijing; Editing by Sumeet Chatterjee and Raju Gopalakrishnan)