Credit rating agency Moody's Investor Services has downgraded China's long-term local currency and foreign currency issuer ratings from Aa3 to A1 on Wednesday (May 24). The economy's outlook was also changed from stable to negative.
Moody's had raised concerns over China's growing debt as its economy slows. The firm also posited that attempts by the government to control the supply of credit would only slow the high leverage ratio, not stop it altogether.
The report said that the China's combined government, household, and non-financial corporate debt would balloon further from 256% of the nation's GDP.
A report by the New York Times had listed China's total debt at $26.6tn (£20.4tn) for 2015, raising fears about a financial crisis that would mirror the 2008 US crisis.
The Chinese corporate sector has been marked as the largest consumer of debt as many state owned enterprises have grown increasingly reliant on debt in order to maintain their operations and stay afloat. Consequently, such "zombie firms" cannot repay their interests and are unable to invest in order to expand and employ more workers.
The rating agency further stated that with GDP growth estimated to gradually erode over the coming years, the world's second largest economy would grow increasingly reliant on fiscal stimulus. Monetary policy would be constricted by the risk of capital outflows. Consequently, spending from policy banks and state owned enterprises are expected to rise.
As the Chinese government facilitates the economy's transition into a more supply-side focus with a shift from manufacturing to services, Moody's surmised that stimulus programmes would be further exacerbate the debt problem in pursuit of higher growth figures.
China's GDP growth was registered at 6.9% during the first quarter of 2017, and Moody's estimated growth to decrease to 5% over the next five years due to sluggish investment, an ageing population, and a slowdown in productivity.