China’s looming budget hole poses risk to stimulus efforts

BEIJING • China’s plan to ramp-up spending to support the economy is meeting an inevitable challenge: A slump in income due to the pandemic-induced downturn.

Most major income sources will shrink in 2020, the government estimates. With the decline in revenue being compounded by tax breaks offered to help firms survive, Beijing is already planning to issue over 70% more in bonds this year to plug that gap and meet stimulus needs.

Actual income can turn out better or worse than expected — 2019’s general revenue came in weaker than estimated, while land sales were much better than forecast.

The outcome will determine the pot of cash that the government has to play with.

Falling Revenue

Revenue will drop 5.3% this year, according estimates by the Ministry of Finance, the first decline in at least two decades. Income fell 14.3% in the first quarter and will continue contracting this quarter, before starting to grow again in the second half of the year, according to ministry forecasts.

Drop in Income

The income shortfall is broad-based, with almost all types of revenue expected to be down from 2019. The blow is even more evident in non-tax revenues, including the profit from state-owned enterprises (SOEs) and charges for using state-owned assets. SOEs increased their payments to the government in 2019, but they’ll struggle to do the same this year with deflation squeezing profits and demand falling.

Fewer Land Sales

Tax revenues are generally used to pay for general spending such as social security, education, health and wages, while land sales are an important source of money for infrastructure projects which generate economic growth. In a good year, officials can also move excess money from land sales to fill in any tax shortfalls, something that’s unlikely in 2020, as land sales revenue is forecast to fall 3%.

In fact, if that revenue drops by more than 5%, local governments

will be forced to cut spending, especially for infrastructure investment, according to Hua-chuang Securities Co Ltd chief macro analyst Zhang Yu. She expects officials to sell more land to make up for the falls in price.

Pension Shortfall

The expected drop in tax payments and the need to pay for stimulus lead to a massive increase in planned bond issuance this year, causing sovereign bond prices to fall. Investors in Chinese government debt are sitting on some of the world’s worst returns since the start of May, as traders’ dialled back expectations for aggressive monetary easing.

The weak fiscal position will lead to the first deficit in the social security budget, which pays for pensions and medical insurance. The ministry expects a 500 billion yuan (RM301 billion) shortfall, but the gap could be as much as one trillion yuan at the end of the year, according to Hua-chuang’s Zhang, because the government has already promised companies further exemptions from fees.

While the government can use money carried over from previous years or other revenue to make up the gap for now, the shortfall will still put pressure on spending, said Wang Zecai, a researcher at Chinese Academy of Fiscal Sciences. — Bloomberg