Implications of China’s Credit Curtail

China’s economy should see a soft landing as stimulus is reduced, but the drag on global growth may place a burden on developed economies to keep stimulus taps open for longer.

China’s central bank announced it has begun to reduce coronavirus-related stimulus early – a decision that may be far more relevant for policy evolution in developed economies than presently perceived. The move is part of Chinese policymakers’ renewed focus on risk control (see related blog on China), which reflects a belief that in order to sustain high quality growth, market discipline must be brought to bear on the weakest parts of the economy, including some state-owned enterprises, local government financing vehicles, and over-leveraged property developers. Indeed, the People’s Bank of China (PBOC) – mindful of the country’s high debt-to-GDP ratio and fast-developing financial markets – places a higher weight on financial stability risks than most central banks, and liquidity is often managed to mitigate the risk of asset price bubbles alongside traditional inflation and exchange-rate-stability objectives.

Policy tightening in China is already being felt domestically in the form of tighter money market liquidity, moderating private credit growth, and reduced government bond issuance. China’s credit impulse, a measure of changes in new public and private credit as a percentage of GDP, which typically marks turning points in economic activity, appears to have peaked (see chart below). We believe it’s likely to decelerate through the remainder of 2021. The central bank is targeting overall credit to grow in line with nominal GDP, implying the credit impulse will fall to around -3.5% of GDP by year-end, from a peak above 9% in the fourth quarter of 2020. All else equal, this may slow China’s economic activity to below-trend levels by late 2022.

New public and private credit issuance in China appears to have peaked

This line graph tracks China’s credit impulse over the period from the beginning of the first quarter of 2012 through the fourth quarter of 2020. During this period, China’s credit impulse increased from -8.2% at March 31, 2012 to 7.4% at March 31, 2013, before falling to -5.4% at June 30, 2015. It then climbed to 11.1% at June 30, 2016, before sliding to -6.9% at the end of 2018, and rebounding up to the most recent high of 8.3% at September 30 2020. It has been declining since, and sat at 8.3% at September 30, 2020. PIMCO anticipates it will continue to decline to -3.5 by the end of 2021.

Source: CEIC, PIMCO as of 31 December 2020.

Tighter liquidity may mildly stress China’s corporate debt and money markets…

Tighter liquidity is likely to lead to stress at the periphery of China’s corporate debt market and, at least for short periods, more volatility at the heart of its money market. While Chinese regulators have adeptly isolated selective corporate debt defaults from the rest of the system, mounting debt incurred during 2020 (rising roughly 25 percentage points to nearly 300% of GDP) risks spillovers.

Second, at the global level, the current tightening in China’s credit impulse will occur amid strong fiscal stimulus and improving mobility in the developed economies. This stands in marked contrast to the backdrop of prior declines in the credit impulse in 2011-12 and 2014-15.

…but we expect a soft landing

The Chinese economy should achieve a soft landing for three main reasons:

  • Banks and the larger economy are stronger. The prior round of credit tightening in 2017-18 made the economy more efficient and less sensitive to future stimulus withdrawal. It reduced excess low-end (and often unprofitable) manufacturing capacity. Simultaneously, policymakers took measures to bring hidden risks within the shadow credit sector back onto banks’ balance sheets and, in turn, pressured banks to raise capital and clean up their balance sheets. Banks are now well-placed to cope with a more neutral liquidity stance at a time when nonperforming loans are likely to rise.
  • Pandemic’s economic effects have largely run their course. The authorities managed the pandemic so well that the private sector is in a reasonably good position to carry the growth baton after the role played by the public sector in 2020.
  • Structural changes in the economy point to a less credit-intensive growth model than before. While the traditional manufacturing and investment-driven growth model has heavily relied on credit, the new economy is increasingly driven by the services sector and consumption. These sectors rely more on human capital and productivity, instead of credit.

Investment implications

  • Higher spreads may offer opportunities in local duration. The potential for temporary periods of interbank risk aversion stemming from selective defaults and corresponding overshoots to interbank rates should offer good opportunities in Chinese local duration, which we view as fundamentally sound. Unlike previous cycles, the $273 billion rise in foreign holdings of Chinese government debt over the last two years implies a growing interconnectedness between Chinese and global bond markets.
  • Renminbi appears attractive. On its own, the turn lower in the credit impulse does little to change our near-term constructive view on the Renminbi. As with the economy itself, the Renminbi tends to lag shifts in the credit impulse by two quarters. We also see potential currency upside from any U.S. tariff relief.
  • Global demand should mitigate risks to commodity prices. Despite its past high sensitivity, the commodity complex faces less risk from a weakening credit impulse amid an expected strong rebound in developed economy demand.
  • Developed economies may require stimulus for longer than currently appreciated. China provides a key engine of global growth, generating 11.4% of global GDP in 2020* and an annual average of 0.9 percentage points of growth in global GDP over the last decade. The years in which it contributed 0.5% or less – 2015, 2016, and 2019 – coincided with a material deceleration in global GDP growth. If past is prologue, developed countries may be required to maintain stimulus measures for longer than presently expected.

* In U.S. dollar terms. In purchasing power parity-adjusted terms, China’s share of, and contribution to the growth of, global GDP, are even larger, at 29% and 1.6% points, respectively.

Gene Frieda is a global strategist covering emerging and developed markets. Carol Liao is a China economist based in Hong Kong.

The Author

Gene Frieda

Global Strategist

Carol Liao

China Economist


Emerging Markets

Explore PIMCO’s Emerging Market solutions and learn how our EM team builds portfolios with active positioning that seeks to reduce traditional EM risk while maximizing potential returns.


PIMCO Europe Ltd
11 Baker Street
London W1U 3AH, England
+44 (0) 20 3640 1000

PIMCO Europe GmbH Irish Branch,
PIMCO Global Advisors (Ireland)
3rd Floor, Harcourt Building 57B Harcourt Street
Dublin D02 F721, Ireland
+353 (0) 1592 2000

PIMCO Europe GmbH
Seidlstraße 24-24a
80335 Munich, Germany
+49 (0) 89 26209 6000

PIMCO Europe GmbH - Italy
Corso Matteotti 8
20121 Milan, Italy
+39 02 9475 5400

PIMCO (Schweiz) GmbH
Brandschenkestrasse 41
8002 Zurich, Switzerland
Tel: + 41 44 512 49 10

PIMCO Europe Ltd (Company No. 2604517) is authorised and regulated by the Financial Conduct Authority (12 Endeavour Square, London E20 1JN) in the UK. The services provided by PIMCO Europe Ltd are not available to retail investors, who should not rely on this communication but contact their financial adviser. PIMCO Europe GmbH (Company No. 192083, Seidlstr. 24-24a, 80335 Munich, Germany), PIMCO Europe GmbH Italian Branch (Company No. 10005170963), PIMCO Europe GmbH Irish Branch (Company No. 909462), PIMCO Europe GmbH UK Branch (Company No. BR022803) and PIMCO Europe GmbH Spanish Branch (N.I.F. W2765338E) are authorised and regulated by the German Federal Financial Supervisory Authority (BaFin) (Marie- Curie-Str. 24-28, 60439 Frankfurt am Main) in Germany in accordance with Section 15 of the Securities Institutions Act (WplG). The Italian Branch, Irish Branch, UK Branch and Spanish Branch are additionally supervised by: (1) Italian Branch: the Commissione Nazionale per le Società e la Borsa (CONSOB) in accordance with Article 27 of the Italian Consolidated Financial Act; (2) Irish Branch: the Central Bank of Ireland in accordance with Regulation 43 of the European Union (Markets in Financial Instruments) Regulations 2017, as amended; (3) UK Branch: the Financial Conduct Authority; and (4) Spanish Branch: the Comisión Nacional del Mercado de Valores (CNMV) in accordance with obligations stipulated in articles 168 and 203 to 224, as well as obligations contained in Tile V, Section I of the Law on the Securities Market (LSM) and in articles 111, 114 and 117 of Royal Decree 217/2008, respectively. The services provided by PIMCO Europe GmbH are available only to professional clients as defined in Section 67 para. 2 German Securities Trading Act (WpHG). They are not available to individual investors, who should not rely on this communication.| PIMCO (Schweiz) GmbH (registered in Switzerland, Company No. CH- . The services provided by PIMCO (Schweiz) GmbH are not available to retail investors, who should not rely on this communication but contact their financial adviser.

Statements concerning financial market trends or portfolio strategies are based on current market conditions, which will fluctuate. There is no guarantee that these investment strategies will work under all market conditions or are appropriate for all investors and each investor should evaluate their ability to invest for the long term, especially during periods of downturn in the market. Outlook and strategies are subject to change without notice.

Forecasts, estimates and certain information contained herein are based upon proprietary research and should not be considered as investment advice or a recommendation of any particular security, strategy or investment product. Commodities contain heightened risk, including market, political, regulatory and natural conditions, and may not be appropriate for all investors. Currency rates may fluctuate significantly over short periods of time and may reduce the returns of a portfolio.