China Moves Forward on Credit Rating Rules as Defaults Climb

Chinese authorities are seeking comment on their proposals to overhaul the country’s credit rating companies, part of Beijing’s efforts to reduce market and economic risks.

The People’s Bank of China, which posted a draft of updated regulations on its website on Sunday, said in a notice that the public has until April 12 to provide their feedback on the policy aimed at strengthening supervision of domestic credit rating companies and improving their independence and quality control.

China’s ratings firms have long been criticized for issuing inflated grades, failing to differentiate between firms with different risk profiles and being slow to spot companies in trouble. About 96% of onshore credit scores are the equivalent of investment grade. What’s more, a recent report by industry watchdogs showed that a higher proportion of higher-quality borrowers defaulted compared to lower-rated firms.

Accurate credit ratings are becoming increasingly important as Beijing allows more firms to fail amid efforts to introduce a market-led approach to risk. Borrowers have defaulted on more than $10 billion of local and offshore bonds in 2021, a year-to-date record, Bloomberg-compiled data show.

Read more on China’s credit ratings:
Why China Is Shaking Up Its Credit Ratings Industry: QuickTake
China Credit Rating Firms Increasingly Under the Microscope
China Ratings Firms Issue Downgrades at Fastest Pace Since 2016
Record Defaults Hit Weak Chinese Firms as Liquidity Tightens
Everything China is Doing to Clean Up Its Domestic Credit Market

The Chinese rating industry has attracted renewed scrutiny since AAA-rated defaults roiled the domestic credit market late last year. In December, regulators imposed a 3-month ban on new debt-grading business for both China Chengxin International Credit Rating Co. and Golden Credit Rating International Co. due to irregularities such as insufficient risk analysis and improper rating models.

The policy document -- jointly issued by the PBOC with the National Development and Reform Commission, the Ministry of Finance, the China Banking and Insurance Regulatory Commission and the China Securities Regulatory Commission -- calls for setting up unified standards for domestic rating firms and punishing violators.

The overhaul, particularly the first mention of using default rates to evaluate the credibility of the raters’ models and lowering the ratio of higher grades, will exert significant pressure on them to be more objective, said Nanjing Securities Co. fixed income analyst Yang Hao.

Rating firms are also encouraged to use big data and artificial intelligence to identify financial risks, according to the document.

Policy makers appear to be stepping up efforts to enforce discipline in the world’s second largest bond market and attract foreign investors. Beijing allowed overseas ratings agencies to operate locally for the first time in 2019, but the move has had a limited impact on broadening credit opinions. Given the multiple reasons to want high ratings -- regulatory approval for bond sales, reduced borrowing costs, debt qualifying as collateral for certain loans -- there’s limited incentive for local issuers to risk getting a lower rating from an overseas firm.

While the policy document sets out plans to expand a still-small effort that investors pay for credit ratings, there is no mention of reviewing the current system where borrowers do so. “If issuers continue to pay for ratings, the rating firms will still face obstacles in handing out fairer grades,” said Yang. “I’m doubtful when the investor-based pricing scheme can really start to roll out.”

©2021 Bloomberg L.P.

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