Moody's downgrade of outlook on China's debt rating is propaganda not business analysis
Published: Dec 12, 2023 10:08 PM
Illustration: Chen Xia/Global Times

Illustration: Chen Xia/Global Times

Moody's rating agency's downgrading of outlook on China's government credit rating, from "stable" to "negative," is an example of propaganda pretending to be a business judgement. Experience shows that such activity can be extremely expensive for those acting on it. 

Moody's, to justify its position, is forced to make claims which allow its statements to be tested and its own credibility to be judged. Specifically, as it states in the release justifying its position: "Moody's expects that China's annual GDP growth will be 4.0 percent in 2024 and 2025, and average 3.8 percent from 2026 to 2030, with structural factors including weaker demographics driving a decline in potential growth to around 3.5 percent by 2030." As this is a clear and specific prediction, and as will be seen a wrong one, it allows Moody's analysis to be tested against the facts as they unfold.

Moody's prediction is in direct contradiction to the positions of China's government. Regarding this, in 2020's discussion around the 14th Five-Year Plan (2021-2025), a clear strategic goal was set. It was concluded that by 2035 for China: "It is entirely possible to double the total or per capita income". 

To double GDP between 2020 and 2035 requires annual average GDP growth of 4.7 percent. Its annual average growth in 2020-2022 was 4.5 percent during the three-year pandemic, but still outpacing the world average of around 2 percent. China will emerge again to come in above this rate in 2023, with the results from the first nine months of the year showing that the full year's GDP growth will be around 5 percent.  

This is in line with the 45-year record since 1978's launching of China's reform and opening-up - in which entire period the medium and long term targets set by China have consistently been beaten. 

Before dealing with Moody's specific errors, however, first assess the legitimate activity of a credit rating agency such as Moody's. This should be to conclude whether the institution being evaluated, in this case China's government, will meet the commercial terms it has agreed to. Regarding debt this means that it will be paid in full, at the specified time, and with the conditions agreed to when the contract was entered into.

To judge China's government's ability to service its debts in this fashion consider its financial position. China's foreign exchange reserves stand at $3.2 trillion - by far the world's largest, with second placed Japan having $1.3 trillion and India $0.6 trillion. In comparison, Germany, given Moody's high rating of AAA, has only $0.3 trillion foreign exchange reserves. 

With such reserves China's government has not the slightest problem in meeting any foreign debt - any lender to China's government can be paid in full, on the date specified, on the terms agreed. Whether to lend China's government money is therefore a purely commercial judgement, considering the profit on this compared to other possible loans, and is not in the slightest risky compared to any other country. 

Nor is there any significant competitive downward pressure on China's foreign exchange reserves - in the first nine months of 2023, China's balance of payments surplus was $209 billion.

Behind these international reserves is the gigantic lead of China compared to any other country in savings - capital creation. The enormous annual pool of capital creation in China has no near equal in any other country. Taking the latest available World Bank data, China's $8.1 trillion gross savings were almost twice those of the US' $4.06 trillion and China's annual pool of capital creation is greater than the US' plus the Euro area's $3.91 trillion combined.

In summary the foreign and domestic capital and financial resources of China are not remotely matched by any other country. 

Now let us turn to Moody's specific claims regarding slowdown in China's economy. As at present China's economy is recording growth far above Moody's projections, Moody's has to give some explanation of why this will occur, and that China's government targets will not be met.

The reason Moody's cites which includes demographics, doesn't make sense as anyone who has looked at the figures can easily find out. Because, contrary to factually unfounded claims, increases in labor supply plays an extremely small role in China's growth. To understand this clearly first make a fundamental calculation. China's annual average GDP growth rate from 1978 to 2022 was 9.0 percent. In the same period China's annual average population increase was 0.9 percent. That is annual GDP growth of 8.1 percent, 90 percent of the total, could not have been accounted for by population growth. 

Taking more precise measurements, taking into account changes in hours worked, labor participation rates, education etc the Conference Board's detailed growth accounting study shows that in the last 10 years on average precisely zero percent of China's GDP growth was due to increases in labor inputs - all China's growth was due to investment and productivity increases. As labor inputs play such a small role in China's growth the fact that they are not growing, or may shrink slightly, will not significantly slow China's growth.

Given these determinants of China's growth, if its economy were to slow in the way Moody's projects, then this must be due to some other factor - a huge decline in investment, productivity, or capital efficiency. For none of these does Moody's present any evidence justifying a prediction that China's growth rate will fall to the levels it claims - a totally unserious position. 

The risk actually lies in adopting the policy Moody's advocates - of reducing the share of investment in China's GDP. Unless that were carried out China will hit the growth targets its government has set - as comparing the actual results in China's economy to Moody's predictions will confirm.

In summary, Moody's is not serious analysis of China's economy - it is propaganda. Experience shows that those basing business decisions on propaganda not facts lose a lot of money - both in missed opportunities and wrong investments.

The author is a senior fellow at Chongyang Institute for Financial Studies, Renmin University of China.