With the expectation that economy-wide debt will continue to rise and potential growth will slow, credit ratings agency Moody’s Investors Service downgraded China’s long-term local currency and foreign currency issuer ratings to A1 from Aa3. The country’s outlook has been changed from negative to stable. This marks China’s first downgrade from Moody’s since 1989.
Though Moody’s expects that reforms will likely improve the economy and financial system given time, the financial strength of the country will deteriorate in coming years. Reforms are not likely to prevent a rise in economy-wide debt nor help with increasing government liabilities. Risks are balanced, however, at the A1 rating level, and as reforms take hold, the deterioration in China’s credit profile will be contained, Moody’s said.
Explaining the decision, Moody’s said that China’s GDP will remain very large and growth will stay high, but potential growth will likely decrease in coming years. Given the importance Chinese authorities place on growth, the economy may become increasingly reliant on policy stimulus. GDP growth has declined in recent years from a high of 10.6% in 2010 to 6.7% in 2016, a slowdown from structural adjustment that Moody’s expects to continue. Further, the ratings agency forecasts that economy-wide debt of the government, households and nonfinancial corporates will continue to rise.
China’s Ministry of Finance criticized Moody’s decision, saying that it was based on "inappropriate methodology" and has somewhat exaggerated the difficulties the Chinese economy is facing, China Daily reported.
The downgrade comes on the heels of a bilateral trade agreement between the U.S. and China that was revealed on May 12, part of which allowed foreign-owned financial groups to offer credit ratings services by July 16, the Financial Times reported. Investors believe that the introduction of credit rating services will help attract foreign investment into China’s onshore bond market. Fitch Ratings said that it was encouraged by the news and looked forward to more details, and Moody’s and Standard and Poor’s made similar statements, the Financial Times said.
Moody’s also downgraded the ratings of 26 Chinese nonfinancial corporate and infrastructure government-related issuers and rated subsidiaries, as well as a number of banks.
– Adam Fusco, associate editor