China Local Governments Face Spending Cliff

Chinese local governments are cutting spending as a collapse in land sales revenue forces a sharp reduction in urban infrastructure projects. This fiscal squeeze has created what one economist calls a true cliff, dragging on the national economy. The drop in revenue stems from the property market slump that began in 2021, which removed a primary funding source for roads, rail, and industrial parks.

The International Monetary Fund has urged Beijing to increase fiscal stimulus to counter deflationary pressures. Kristalina Georgieva, the IMF Managing Director, stated that China needs to spend more while the U.S. and Europe must adjust their own budgets. The Fund projects China’s economic growth will slow to 4.5% this year and further to 4% in 2027. Georgieva identified the U.S. and European countries as the worst offenders on debt, though she emphasized the need for immediate action in Asia.

Local authorities once relied heavily on selling land to developers to fund public works. That income has dropped by more than half since 2021. CF40, a Beijing think tank, estimates land-sale income fell to 4.2 trillion yuan, or about $590 billion, down from 8.7 trillion yuan. This loss of revenue has directly impacted government outlays. Ting Lu, chief China economist at Nomura, estimates combined fiscal spending declined 3.5% in the first eight months of the year, a reversal from a 3.6% growth rate in 2025.

The reduction in spending has hit urban investment particularly hard. Urban fixed-asset investment fell 3.8% in 2025, marking the first decline in decades. The downturn steepened in the first three quarters of 2026, with investment dropping 7.2%. Beijing maintained its official deficit target at roughly 4% of GDP. However, the Institute of International Finance estimates the actual deficit could reach 9%, a level it deems insufficient to support the economy.

Beijing has ordered state-backed borrowers to clear hidden debt and transition into market-oriented commercial state-owned enterprises by mid-2027. S&P Global Ratings reports that hidden debt in these vehicles shrank to 6.5 trillion yuan in 2025, down from 14.3 trillion yuan in 2023. Despite this reduction, many entities still lack the cash flow to cover interest payments and remain tied to unprofitable public projects.

The IMF recommends a medium-term fiscal framework to balance near-term stimulus with long-term debt sustainability. Krishna Srinivasan, director of the fund’s Asia and Pacific department, explained that China must expand fiscally now but claw back support later. The Fund also advises moving away from point growth targets, which it argues cause local officials to invest excessively and misallocate resources.

Local officials face a difficult choice regarding debt repayment. Logan Wright, a partner at Rhodium Group, noted that no one wants to be the first local government official to default. However, he warned that once Beijing bails out one entity, others may expect the same, leading officials to prefer defaulting over paying down debt.

China’s industrial profits for the year to date will be released on October 27. The official manufacturing PMI for October is scheduled for release on October 31. RatingDog’s manufacturing PMI for October will follow on November 2.