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China finally looking into overhauling bond rating system

On Behalf of | Apr 6, 2021 | Business Issues

In an effort to minimize economic and market risks, China is pursuing efforts to overhaul the way its credit rating companies do business. The People’s Bank of China announced on March 28 that it was seeking public feedback on its guidelines to strengthen the supervision of its domestic credit rating companies. Comments are due by April 12.

For years, the country’s rating firms faced criticism for issuing overly inflated and inaccurate grades. For example, a recent industry watchdog report determined that a greater number of higher-quality corporate borrowers defaulted compared with firms that had lower ratings.

Foreign investors remain hesitant

It has been long known that China’s bond rating system has been in need of an overhaul, and, by the recent looks of it, the Chinese government apparently is open to making some changes.

The People’s Bank of China seems to be following through with its promise from late last year when it reported it would maintain better oversight of the rating industry after an increased number of bond defaults from companies tied to the state. In addition, China has allowed some overseas rating agencies into the country.

Foreign investors continue to be hesitant about exploring China’s $15 trillion bond market. The reason remains that the market’s unreliability pertaining to the bond quality, outright inaccuracy from China’s domestic credit ratings and rising defaults. The country’s ratings agencies also have been slow in determining when companies are in financial trouble.

Remember, the Chinese market is one in which 96% of bonds receive excellent ratings, however, defaults surface unexpectedly. (In the U.S, roughly 72% of corporate debt were investment grade in early 2019.)

Higher bond ratings provide a number of benefits, including lower borrowing costs along with quick approval for bond sales. In addition, a healthy credit rating system provides an effective setting in which risk is more accurately priced, minimizing pressure on the Chinese banking system.