A Tale of Two Debt Burdens: A Day of Reckoning for China’s Debt-Fueled Infrastructure Development at Home and Abroad

In recent years, China has financed massive infrastructure development at home and abroad. China has financed local infrastructure projects across China through special-purpose entities known as Local Government Finance Vehicles (LGFVs), and it has financed scores of infrastructure projects in developing countries and emerging economies around the globe under its ambitious, globe-spanning Belt and Road Initiative (BRI).

Infrastructure development almost inevitably involves a fair amount of debt financing by the borrowers undertaking such development, but even so the scale of borrowing by LGFVs and BRI borrower countries has been fairly astonishing.  Specifically, LGFVs alone have incurred approximately nine trillion dollars of debt (according to an estimate by the International Monetary Fund), and BRI sovereign borrowers have incurred possibly a trillion dollars or more of debt. 

Yet, this mountain of debt is now posing serious debt sustainability challenges for both BRI borrower countries and LGFVs.  Many BRI borrower countries are now facing serious sovereign debt distress or are at high risk of such debt distress, and a number of these countries have already turned to the IMF for financing packages and/or initiated debt restructurings with their creditors (although several of these debt restructurings have so far been protracted and messy exercises).   Separately, numerous LGFVs all across China, especially in China’s weaker economic regions, are now facing major financial distress as they struggle to service their outstanding debt service payments.

The infrastructure projects that have been financed by BRI and LGFVs have, in many cases, proved to be uneconomic, and this has led to the debt sustainability travails facing both BRI countries and LGFVs.   Many of the BRI projects in developing countries were based on fairly optimistic projections as to the ability of the projects to generate revenues. However, in many cases, those revenue projections proved to be overly optimistic, and thus, the BRI projects in question have been faced with major revenue shortfalls.    

For example, new BRI port projects such as the Hambantota port project in Sri Lanka and BRI railway projects such as the Standard Gauge Railway (SGR) in Kenya (which connects the capital city of Nairobi with the port of Mombasa on the Indian Ocean) have attracted much less traffic (whether of vessels, passengers, and/or cargo) than was originally expected for these projects.  As a result, such BRI projects have generated a far lower level of revenues than was initially anticipated.

The revenue shortfalls for BRI projects have, in turn, left many BRI countries without the necessary resources to adequately service their outstanding BRI debt, with the result that many BRI borrower countries are now facing serious debt sustainability challenges. To be sure, though, BRI borrower countries are not just saddled with debt from China.  They have also incurred significant amounts of debt from non-Chinese sources of financing, such as multilateral institutions, other bilateral creditors, including both Paris Club and non-Paris Club members, bondholders (local and external), and so forth.

For their part, LGFVs have suffered from a basic mismatch between the level of investment returns that are generated by their infrastructure projects and the cost of debt that the LGFVs have incurred in order to finance such infrastructure projects. LGFVs generally generate negligible investment returns, and yet the cost of the debt incurred by the LGFVs is often not cheap.  Indeed, the cost of the LGFV debt is often much higher than the investment returns generated by the LGFV-financed infrastructure projects. 

In the past, when the investment returns from the local infrastructure projects were not adequate to service the LGFV debt, the LGFVs could look to the budgets of local governments to make up the shortfall.    Nonetheless, LGFVs can no longer rely on local governments for this purpose since many local governments are facing their own straitened financial circumstances. This is largely due to the precipitous decline in revenues that local governments are currently receiving from property sales which traditionally had been a major source of revenue for local governments.  (It should be noted that this decline in local government revenues from property sales is closely connected to the sharp drop, if not collapse, in China’s property market in the last few years.)      

In a new article entitled 'A Tale of Two Debt Burdens: A Day of Reckoning for China’s Debt-Fueled Infrastructure Development at Home and Abroad,' I discuss the debt sustainability challenges facing BRI borrowers and LGFVs, and I review how the failure of the underlying project economics for both BRI and LGFV projects has contributed to their debt sustainability challenges.  I conclude the article by reviewing what steps the Chinese government is taking to address the LGFV debt crisis that it is currently facing, and then I outline my own set of proposals as to how the Chinese government could more effectively address the more fundamental structural dimensions of the LGFV debt crisis.

The article originally appeared in the International Insolvency & Restructuring Report 2024/25. A newer version of the article, which can be found here, appeared recently in AIRA Journal (the publication of the Association of Insolvency & Restructuring Advisors (AIRA)), Vol. 37, No. 3, and is reprinted with permission of AIRA. 

A version of this post previously appeared in Columbia Law School’s CLS Blue Sky Blog on June 14, 2024.

Steven T. Kargman, a leading expert on international restructurings, is the Founder and President of KARGMAN ASSOCIATES, New York City.