A Research On China’s Province&Local Government Bond Operating Mechanism

Since the international financial crisis broke out in2008, the most common problem is debt problem. While the European sovereign debt crisis continues to deteriorate, the rating of the U.S. had been downgraded, making countries over the world fall into panic. China is no exception in this situation. On June27,2011, the Audit Commission published a report showed that:by the end of2010, China’s local government debt had totaled10.7trillion, including direct debt6.7trillion, guaranteed obligation2.3trillion and part of rescue responsibility of1.7trillion. The huge amount of debt alarmed China’s central and local governments.In the past30years, China and many other countries over the world have implemented fiscal system reform, which features fiscal decentralization. The basic orientation of the reform is to allow local governments to play a greater role in the provision of local public services. However, the fiscal authority of local government has been moved up to central government while the public service demand is growing rapidly. Local government faces the dilemma that must provide huge amount of local public service while has insufficient fiscal resources. Meanwhile, China is lack of experience of coordination between central and local governments, the institutional basis is weak. The central government tries to use fiscal transfer to reflect its governing intention, but the truth is that it cannot work in many situations thanks to the information asymmetry between central and local government. Local government has to provide huge amount of local public service while facing shortage of funds. Debt or even illegal debt is natural.Until now, whether the local government should issue bonds is no doubt. However, theories and practitioners argue a lot about how to issue the bonds steadily. This paper argues that we should firstly draw on the relevant experience of other countries in the world that has been running for many years, such as federal country, the U.S., unitary country, Japan, and developing country, India. Moreover, we should combine the experience and China’s actual situation, and try to explore a path of developing and reform for China’s local government bonds. This paper summarizes the developing history and current problems of China’s local government bonds, especially some "goods in process" like City Investment Company bonds, the central issued on behalf of local government bonds and experimental self-issue bonds. These kinds of bonds have some defects that hinder the regulation, transaction and issue. Therefore, further study about how to regulate the autonomy issue local government bonds is very necessary.While we analyze the bonds that have some features of municipal bonds/local government bonds, we also must compare the two kinds of debt financing methods: direct and indirect debt financing. Six important aspects should be concerned: Financing processes, financing costs, debt process, supervision, solvency sources of funding and financing sources of funding. Local government bond is better in the cost of financing, supervision, solvency sources of funding and financing sources of funding. Local government bond does less harm to commercial bank system as well. At the same time, considering the necessity of issuing bonds to raise fiscal income, the loose financing environment in China’s economy, the enhanced government’s regulation and the external constraint forces, China has prepared well for issuing large amount of local government bonds.After analyzing all these stuff above, the most important thing is to establish a more scientific operational framework of local government bonds, which framework can guarantee that local government can be regulated market oriented, transparently and improve its external operating environment. This is not only to ease the difficulties of local government debt, to regulate the behavior of local government debt, but also to guard against financial risks, to establish a solid government finances, and to create a good economic, political and social environment. Local government should do better in local government bond mode selection, the main issue of the level and the main features of the design, bond issuance limit management, budget of local government bonds, risk management, debt service reserve and other aspects. These great efforts can make local government match the need to issue bonds. External regulation should consider some important things below:clarified regulation authority of local government bonds, sound legal and regulatory system, information disclosure system and neutral rating agencies. Unless China has built the internal-managed process system, as well as external-regulated environment, the local government bond system can be efficient operated and stable risk controlled system.Some supporting reform measures should be taken to:deepen the reform of the tax system, clearance of the boundary of government functions, the implementation of the budget performance management reform, hardening fiscal budget constraints, and optimize the evaluation mechanism for officials. These measures can enhance the local government bond system.