China Steps Said To Grow Bond Market, Add Issuer Scrutiny

China is allowing more companies to trade bonds and increasing scrutiny over issuers as the government seeks to ensure that the expansion of its nascent debt market isn’t derailed by defaults.

The top economic planning agency ordered local governments to examine the ability of companies to repay bonds maturing in 2012 and 2013, two people with direct knowledge of the matter said yesterday, asking not to be identified as they weren’t authorized to speak to media. China Securities Regulatory Commission began allowing mutual funds to invest in private placements by smaller companies, according to an agency document obtained by Bloomberg News.

Chinese companies sold more debt in the first five months of the year than in all of 2010 as the government encouraged companies to boost fundraising through sales of equity and bonds in a campaign to wean them off loans from state-owned banks and make their finances more transparent. The growth is spurring concern given that China has never had a domestic bond default, according to Moody’s Investors Service.

“It’s kind of a dilemma because for a bond market you must face default sooner or later,” said Ivan Chung, an analyst at Moody’s in Hong Kong. Chinese officials “worry that one default may cause a confidence crisis and people will lose faith in the bond market,” he said.

China’s 4.2 trillion yuan ($659 billion) corporate bond market is about 9 percent of its gross domestic product. In the U.S., the $7.9 trillion in fixed-income securities is equal to more than half the size of economic output.

Risk Monitoring

The National Development and Reform Commission ordered local officials to set up risk monitoring and forecasting mechanisms for debt maturing this year and next, the people said. Companies that violate the monitoring rules and default will be barred from selling more bonds, they said.

Local branches of the NDRC that submitted bond-sale applications to the central commission for companies that later default won’t be allowed to submit additional applications, the people said. It wasn’t clear if the bans would be temporary or permanent, the people said.

The main underwriters for defaulted debt will have their bond issuance businesses either temporarily or permanently halted as punishment, the people said.