In the past, local officials were judged on their ability to produce growth. Now, on top of that, they will be judged on how much they borrow. And that record will follow them from post to post. In the past, long-term concerns about China’s financial stability played second fiddle to social stability. Officials paid lip service to controlling lending. If there was a choice between higher unemployment and higher debt, they always opted for the latter. Now, Xi says, that game is over. Social stability can’t be sacrificed, but debt has to come under control. Anyone who can’t hit both objectives needs to look for a new job.

CCP are keen observers of world history. Xi had seen how crises that start in runaway lending end with financial collapse, economic recession, social unrest, and political turmoil:

  • In Japan in 1989, excess lending resulted in a bubble in equity and real estate. The bursting of that bubble turned the land of the rising sun from a threat to US dominance to a stagnant also-ran in the global race and ended the decades-long reign of the Liberal Democratic Party.
  • In Asia in 1997, the combination of high foreign borrowing and crony-capitalist relations between banks and business tipped China’s neighbors into crisis. Financial meltdown toppled leaders throughout the region, ending the 31-year reign of Suharto and propelling a former dissident democracy activist into South Korea’s Blue House.
  • In the US in 2007, runaway mortgage lending and lax financial regulation triggered the subprime mortgage crisis. A painful recession and slow recovery resulted in a wrenching shift in US politics.

If Xi moved more cautiously, modulating the campaign to ensure GDP stayed on target, deleveraging would be just another passing policy fad. Slogans would be enthusiastically repeated. Behavior wouldn’t change. China might enjoy a few more years of credit-inflated growth, but the day of reckoning would not be long in coming.

Put simply, Xi faced an unpalatable choice: crisis now or crisis later.

Days later, the firm defaulted on an 852M-yuan bond payment — the first of a series of missed payments on bonds worth 7.2B yuan. Now the Liaoning government is trying to strong-arm Dongbei’s creditors — an assortment of banks and bond holders — to agree to a deal, swapping their loans for an equity stake. Few want shares in a firm with no profits and little prospect of any.