Exploring the Nexus of Local Government Financing Vehicles in China

Résumé

Local government financing vehicles (LGFVs) are specific government-controlled entities which aims to provide financing for local government. After the “four-trillion stimulus plan”, LGFVs play an important role in the expansion of local government debt in China, which attracts lots of attention from both regulators and market participants. Results show that despite numerous regulatory changes which aims to restrict the financing power of local government from utilizing LGFVs, bond issued by LGFVs (sometimes called LGFV-issued bonds) is still priced heavily on local government characteristics, which is robust after applying instrumental variables. Clearly market participants believe LGFV-issued bond is implicitly guaranteed by the local government and integrate the value of the guarantee into the pricing of the LGFV-issued bond. Further analysis also examines the impact of the regulatory changes regarding LGFVs, which could be seen as an epitome of the conflict between local and central government. Results show that “File 43”, which aims to cut the connection between local government and LGFVs, do have some effect on the fund-raising of local government. But implicit government guarantee still exists in the pricing of LGFV-issued bonds, implying a strong market belief on the implicit government guarantee.