CHINA’S banking regulator has started to scrutinise offshore holdings of local government financing vehicles’ (LGFV) debt at the nation’s financial institutions in Hong Kong, according to sources familiar with the matter.

The regulator contacted the Hong Kong units of several Chinese banks and insurers earlier this week and asked them to detail their holdings of US dollar bonds issued by LGFVs, said the sources, asking not to be identified as the matter is private. Officials were particularly interested in their exposure to bonds with tenors of less than one year, the sources added. These Hong Kong units are the biggest buyers of LGFV bonds.

No immediate action was required by the National Financial Regulatory Administration on their US dollar LGFV holdings, said the sources. The banking regulator did not immediately reply to a request seeking comment.

LGFVs’ financing activities have come under increasing scrutiny in recent months as the government seeks to rein in debt risks. In January, China’s securities regulator asked some investors not to increase their exposure to short-term notes issued by LGFVs. More recently, several lenders were asked to limit the use of a repayment-support mechanism known as a standby letter of credit that has backed offshore bond issuance by LGFVs.

Short-term US dollar notes sold in Hong Kong became more popular after the government imposed measures to curb onshore financing, as they do not require signoff from Chinese regulators. Most of such debt was held by Chinese financial institutions’ units in the Asian financial hub.

Originally set up to skirt a ban on municipal authorities borrowing from banks or selling bonds directly in the open market, LGFVs have played a key role in building up infrastructure to boost the economy. But with debts rising to around US$9 trillion, as estimated by the International Monetary Fund, they are becoming a major risk to China’s financial stability. BLOOMBERG

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