Fitch Ratings said Thursday that China's credit risk has increased because local governments have become heavily indebted, with a lack of disclosure by financial institutions compounding the problem.
The comments by Fitch, one of the three major credit rating agencies, come amid concerns that borrowings by local authorities in China for expensive public works may overwhelm the ability of some local governments to repay banks.
Senior Director Jonathan Lee of Fitch Ratings in Taiwan said a large chunk of the lending has gone into unprofitable infrastructure, raising the prospect of default.
"Credit risk has risen from an over-extension of loans to local governments and property _ both of which have questionable medium-term repayment capacity," Lee said during a conference in Taipei.
Chinese local governments borrowed heavily over the past decade to build subways and other infrastructure that the central government in Beijing initially promised to fund but then pulled out of.
Borrowing by local governments increased after Beijing ordered higher spending on public works as part of its economic stimulus to fend off the 2008 global crisis.
In June, Beijing revealed that local governments have piled up 10.7 trillion yuan ($1.6 trillion) in debt, the equivalent of 25 percent of China's annual economic output.
Lee also highlighted concerns about Chinese banks moving to offload the local loans. He said the process of bundling the debts into securities continues to grow, which is transferring the credit risk to a broader group of investors.
"Disclosure is very poor, and there is no legal framework guiding (these activities), which means that unwinding products in the event of default could get very messy," he said.