(Yicai) Nov. 5 -- China’s top legislature is expected to approve an increase in local government debt limits this week to enable them to swap out their hidden debts, thereby helping mitigate fiscal risk and enhance financial transparency.

The Standing Committee of the 14th National People's Congress began reviewing the proposal during the session that opened yesterday. A decision is expected to be announced when the session concludes on Nov. 8.

Finance Minister Lan Fo'an announced on Oct. 12 that the central government is seeking a one-off increase in the debt ceiling to facilitate the replacement of off-balance-sheet debt through additional bond issuance as part of measures to help local authorities mitigate debt risk, describing them as “the strongest debt relief measures in recent years.”

Since the pandemic, localities have continued to borrow to support economic growth, but this has intensified their debt servicing pressure, particularly due to the significant issue of hidden debt.

Observers had speculated that the government would issue new special treasury bonds to raise funds then allocated to localities for replacing hidden debt. But updates from the NPC indicate that, with the increase in the debt cap, local authorities are likely to go on managing their debt burden as previously. That involves converting short-term bonds into longer-term notes with lower borrowing costs through the debt swap process.

The central government began allowing local authorities to issue refinancing bonds to replace hidden debts in 2019. To date, the total has reached around CNY4 trillion (USD563 billion), making it necessary for the NPC to approve a higher debt ceiling.

Fiscal policy and tax experts told Yicai that using the proceeds of bond sales to replace hidden debt can make debt management more transparent, extend debt maturity, and lower interest payment costs, thereby mitigating risk.

Implementing a new round of debt swaps is crucial, as local governments face increasing pressures to repay debt while simultaneously needing to foster local economic development, said Luo Zhiheng, chief economist at Yuekai Securities.

Refinancing hidden liabilities can optimize local debt structures and shrink the interest payment burden, allowing localities to better allocate resources that could boost economic vitality and social well-being, Luo noted. It could also alleviate the phenomenon of random fines and fees that local authorities impose as a result of their tight fiscal conditions, thereby fostering a better business environment, he added.

Debt swaps can also help local government financing vehicles, the main bearers of hidden debt, in shedding their historical debt burdens and achieving business transformation, Luo concluded.

Editors: Tang Shihua, Emmi Laine