On January 5, 2026, Shandong Province issued RMB 72.381 billion (USD 10.364 billion) in local government bonds, marking the official opening of this year’s local-bond issuance cycle. Part of the funds will be used for new projects, while another part will be used to swap out existing hidden (off-balance-sheet) debt. An even larger-scale action has long been laid out. The total quota of RMB 6 trillion (USD 859.146 billion) in swap bonds to be issued over three years will be fully issued in 2026.
Interlinked Risks: The Dual Challenge of Real Estate and Local Government Debt
Entering 2026, China’s economic decision-makers are focusing their attention on two deep-rooted ailments: real estate and local government debt. The two do not exist in isolation, but rather form a deeply bound bundle of risks.
Experts state bluntly that as long as real estate prices continue to fall, the local-debt problem will not only remain unsolved, but will worsen further. In the past, land finance and real estate were the “magic finger” driving local economies; today, that pillar is loosening, and risks are beginning to move in tandem.
The linkage between real estate and local debt manifests at multiple nodes: declines in land-transfer revenue weaken local repayment capacity; financing for local government financing vehicles (LGFVs) and real-estate financing affect each other; and policies aimed at stabilizing the property market (such as ensuring the delivery of pre-sold homes and urban renewal) also require tight local fiscal resources to support them.
The correspondence between assets and liabilities is the key to understanding this risk. Much of the infrastructure formed through local debt consists of public-welfare assets, whose value is often reflected through the market value of surrounding land and properties. Falling home prices mean the value of the assets serving as the debt base is shrinking, and the model of relying on land sales to repay debt is also becoming unsustainable.
A Shift in Thinking: From Central Leadership to Local Initiative
In the face of these challenges, the debt-resolution approach in 2026 is undergoing a subtle yet profound shift. When deploying economic work for 2026, the Central Economic Work Conference explicitly proposed for the first time to “urge all localities to take the initiative in resolving debt.” This signals that the multiple rounds of debt-resolution actions led by the center over the past decade are beginning to shift toward a greater emphasis on mobilizing local initiative.
The core of local-initiative debt resolution is to change the understanding of economic development. In the past, debt accumulation often stemmed from large amounts of blind and inefficient investment, with projects lacking reasonable returns.
Therefore, the difficulty of proactive debt resolution is not about delivering a blow to economic growth, but about how to fundamentally improve the effectiveness of investment—something closely connected to the theme of high-quality development in the “15th Five-Year Plan” period.
Strengthening local primary responsibility is another key. The newly established Department of Debt Management within the Ministry of Finance will integrate previously dispersed debt-management functions and carry out “full-scope, centralized” management over central and local debt, as well as explicit and implicit debt. This will help build an all-round debt-risk prevention and control system, strictly prevent the addition of new hidden debt, and push debt-resolution work toward a long-term mechanism.
Upgrading the Toolkit: A “Combination Punch” of Financial Innovation
Debt resolution is not only a fiscal task, but also a comprehensive stress test of financial institutions’ capabilities and operating models. In 2026, financial tools will display characteristics of innovation and diversification.
For the massive stock of existing debt, swapping will remain an important method. In addition to the RMB 6 trillion (USD 859.146 billion) in special refinancing swap bonds, starting in 2024 the Ministry of Finance has, each year, earmarked RMB 80 billion (USD 114.553 billion) specifically for debt resolution from newly issued local government special-purpose bonds, and this measure will continue through 2028.
Its core objective is to mitigate the risk hidden dangers inherent in special-bond projects themselves: some projects’ actual returns have fallen short of expectations, facing pressure to repay principal and interest.
Beyond “using debt to resolve debt,” more market-oriented tools are being placed under high expectations. Experts suggest advancing “debt-to-equity swaps” and equity swaps, and, for operating (commercial) debt, introducing strategic investors to optimize the asset–liability structure. In addition, promoting consolidation and mergers among regional LGFV platforms, and monetizing high-quality existing assets held by local governments through asset securitization tools to repay high-interest debt, is also an important direction for optimizing the debt structure.
Platform Transformation: A Long Road from Exiting the Platform to Exiting the List
LGFVs are an important carrier of local debt. According to statistics, by the end of 2025, more than 360 LGFVs had publicly announced “exiting the platform,” meaning they would no longer assume government financing functions.
But “exiting the platform” does not mean safely coming ashore. From “exiting the platform” to truly achieving market-oriented transformation and “decoupling” from local governments (i.e., “exiting the list”), there is still a long road to travel.
At present, the risk of hidden debt among LGFVs has somewhat converged, but the risk of operating (commercial) debt formed in the course of market-oriented operations requires even more vigilance. According to estimates, by the end of 2025, the scale of this portion of debt remains considerable.
The key to disposal lies in “exiting the list.” Once completed, part of its outstanding financial debt will no longer be classified within the high-risk management scope. This requires that LGFVs’ transformation must move from a “formal exit” to a deep transformation stage centered on improving their own self-sustaining (“blood-making”) capacity.
Where the Money Flows: From Scale-Driven to Real-Object Efficiency
In 2026, fiscal policy remains proactive, but the emphasis is shifting from simply expanding the scale of spending to placing greater weight on the efficiency of fund usage and the formation of real, tangible workload. Nationwide fiscal spending is expected to grow year-on-year in 2026, but the growth rate will slow compared with the high base of 2025. However, the share of spending that can directly contribute to real, tangible workload is expected to rebound.
The issuance of new bonds also reflects this orientation. In 2026, the quota for newly added special-purpose bonds is expected to increase moderately to meet funding needs in areas such as infrastructure investment and people’s livelihood guarantees in the opening year of the “15th Five-Year Plan.” The issuance rhythm is expected to be “fast at both ends, steady in the middle,” so as to form effective investment as early as possible.
Funds will not only go into newly built projects, but will also be used as “living water” to ease difficulties. From the debt balance limit, the central fiscal authority has arranged RMB 50 billion (USD 71.596 billion). Beyond being used to supplement local fiscal capacity and resolve existing debt, a dedicated quota is also arranged for eligible project construction in economically strong provinces, precisely supporting effective investment and enabling major economic provinces to “take on the heavy lifting.”
With the funding from Shandong Province’s first bond issuance now in place, the first-quarter issuance plans disclosed by 27 localities nationwide—totaling over RMB 2 trillion (USD 286.382 billion)—are poised to launch. This “critical battle” of debt resolution entering a key stage in 2026 means far more than balancing the books. It aims to free China’s financial system from past cycles and fully shift growth momentum onto a high-quality, sustainable modernization path.
[Disclaimer]: The above content reflects analysis of publicly available information, expert insights, and BCC research. It does not constitute investment advice. BCC is not responsible for any losses resulting from reliance on the views expressed herein. Investors should exercise caution.