| OPINION
It has been a pressing task for China to address acute concerns over local government indebtedness. The problem has sounded an alarm for the Chinese economy as the country's local government debts amounted to a dizzying 10.7 trillion yuan ($1.69 trillion) by the end of 2010. It is imperative to reform the fiscal system and tackle the imbalance between local and central budgets.
While local governments are not allowed to directly take loans or issue bonds, many have set up special investment vehicles to finance large infrastructure projects.
Worries abound that they may experience acute strains as 4.6 trillion yuan ($726.7 billion), or 43 percent of their debts, are expected to come due in 2011 and 2012. The risks are looming since it is hard for those projects to generate instant returns and cover their debts.
A number of local governments depend heavily on land transfer fees as a major source of finance. But the real estate market has been tapering off as policymakers stepped up a stringent clampdown on the sector.
In 2011, land transfer fees of 130 cities across the nation totaled 1.86 trillion yuan ($294.38 billion), down 13 percent from 2010. How to hold debt risks at bay and wean off local governments' reliance on land transactions is a major dilemma.
In China, prolonged capital shortages have forced local governments to raise mounting debts. The root cause lies in the imbalance between central and local government finances.
As a result of the fiscal system reform in 1994, local governments must hand over a majority of their revenues to the Central Government. The reform delivered a strong boost to the Central Government's fiscal capacities, while it left local governments in a weaker financial position.
While they have a limited source of tax revenues, local governments have to shoulder costs of the enormous public welfare. To make ends meet, the local governments have to rely on land transfer fees and borrow a pile of debts.
The permanent solution for China is to reform its fiscal system and expand tax revenues of local governments.
The country can learn some experiences from the United States, which has three levels of government—federal government, state governments and local governments. The governments at those three levels have clearly defined expenditures and revenues, as well as decision-making powers over their own finance.
Despite the huge political and economic differences between the two countries, the U.S. fiscal system should be a good example for China. There are several suggestions for the policymakers as they try to reform the fiscal systems.
First, China has already started resource tax reform as an effort to conserve resources and protect the environment. It would be helpful if China can follow international practices and allow central and local governments to share the resource tax revenues at a fixed proportion.
Second, China could consider collecting environmental tax, and the revenues should go to local governments since they are responsible for local environment management.
Third, the government should deepen the property tax reform and explore new tax categories to bolster the war chests of local governments.
This is an edited excerpt of views of Zhang Monan, a researcher at the State Information Center, published on China Securities Journal
Email us at: yushujun@bjreview.com
| 
