China's pockets may not be deep enough to bail out emerging markets

China has extended easy credit to vulnerable countries.
But its pockets are not as deep as they once were, analysts say.
Lending to emerging markets could also face political backlash.

When Malaysia canceled two large-scale infrastructure projects backed by China last month, Prime Minister Mahathir Mohamad said he was afraid the country could go bankrupt. As leader of a government that has tried to crowdfund its $250 billion of debt, that seems to be a reasonable concern.

"It’s all about borrowing too much money, which we cannot afford and cannot repay because we don’t need these projects in Malaysia," Mahathir told the New York Times in interviews about the projects, a rail link and a natural gas pipeline that had a collective price tag of more than $22 billion.

Malaysia is just the latest debt-ridden country to have been courted by Chinese lenders, a potential alternative to International Monetary Fund programs that can come with sweeping stipulations.

For example, China is Venezuela's largest creditor, lending the collapsing country more than $62 billion over the past decade. And just last week, President Xi Jinping offered countries in Africa another $60 billion in aid and loans.

But throwing life lines to emerging markets could be impractical for China in the long run, Nomura economists led by Ting Lu wrote in a recent note.

"China is still financially healthy, but its pockets are not as deep as they were," Lu wrote.

In the first three months of 2018, China ran its first current account-deficit since before joining the World Trade Organization in 2001. It rebounded by the second-quarter, but the setback raised questions about whether current-account deficits could occur more frequently in the future.

China's foreign-exchange reserves have fallen to roughly $3.1 trillion from $4 trillion in 2014. Meanwhile, hard-currency external debt has surged, with corporate offshore dollar bond issuance up about $500 billion during that same period.

"As China’s economy is becoming increasingly constrained by its own production capacity, EM imports from China financed by RMB borrowings would likely squeeze China’s exports, resulting, in our opinion, in a headline trade surplus that could overstate actual FX inflows, ultimately impairing China’s FX reserves," Lu wrote.

Lending to emerging markets could also face political backlash as China faces an economic slowdown and as a trade war with the US continues to escalate. As Bloomberg Opinion columnist Shuli Ren, "

For now though, China appears comfortable cozying up to emerging markets. The country been looking to expand economic ties abroad through its Belt and Road Initiative, a trillion-dollar investment venture that has infrastructure investment plans spanning across more than 60 countries.

A recent Pentagon report found is designed to shape interests to align with Beijing and to avoid confrontation and criticism. Involved countries could "develop economic dependence on Chinese capital, which China could leverage to achieve its interests," it said.

"They know that when they lend big sums of money to a poor country, in the end they may have to take the project for themselves," Mahathir told the Times.