The price of implicit guarantee: evidence from municipal bond markets in China

Ping Zhang, Jiahe Zheng, Kexin Tang, Xun Ge and Guangwei Liu

China Economic Journal, 2025, vol. 18, issue 1, 106-130

Abstract: In China, local government financing vehicles (LGFVs) have grown rapidly since the massive stimulus package in 2008. Due to the significant amount of funds allocated to public welfare infrastructure projects, an ‘implicit guarantee’ of debt repayment by local governments has emerged. This paper examines whether and how investors price this implicit guarantee, using a mixed cross-sectional fixed effects model, a generalized DID model, and placebo tests to investigate the hypotheses and identify the heterogeneity and robustness. The findings indicate that implicit guarantees do exist and are influenced by local fiscal capacity and previous guarantee behavior. Tightened regulations on hidden debt have increased the issuance spread of LGFV bonds, with the impact being more pronounced for regions with weaker fiscal and economic strength. Additionally, LGFVs with relatively lower administrative levels, stronger connections to public welfare-related business, higher explicit guarantees, and longer-term LGFV bonds are more influenced by the regulation.

Date: 2025
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DOI: 10.1080/17538963.2024.2406139

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