BEIJING (Dow Jones)--Moody’s Investors Service Inc. said Friday it is reviewing China’s sovereign credit rating for a possible upgrade due to the healthy growth of the Chinese economy and the government’s strong fiscal position.

The credit ratings agency cited “the resilient performance of the Chinese economy following the onset of the global financial crisis, and expectations of continued strong growth over the medium term” for its decision.
China issues very little debt overseas and Chinese investors already treat government securities as essentially risk free. But the statement may still be seen as a vote of confidence in the Chinese economy and in Beijing’s finances at a time when there are concerns about emerging risks from its bank loan-fueled stimulus program.
Moody’s said it believes banks, rather than the government, will absorb most of the expected credit losses from the surge in lending last year, but it added transparency is lacking on the extent of potential losses.
“While uncertainty persists about the size and soundness of off-balance sheet local government financing operations in particular, we also believe that the central government has ample fiscal headroom to absorb future losses,” Moody’s said.
The news cheered investors. The cost of insuring against default or restructuring of Chinese debt fell, with the spread on five-year credit default swaps declining to 55.9 basis points from an earlier high of 57 basis points, and Thursday’s close of 56.3 basis points.
Chinese stocks rose, as the Shanghai Composite Index extended early gains to finish the morning session up 3.3% at 2742.81.
Yuichiro Harada, a senior foreign exchange dealer at Mizuho Corporate Bank, said the possible upgrade is a positive sign for global economic recovery. Increased risk-taking sentiment in currency markets sent the Australian dollar and the euro higher against the US dollar.
Still, analysts said Moody’s move is unlikely to have a big impact on China’s own credit and currency markets. “The news is definitely positive, but I think there are other factors having more relevance in Chinese markets,” said a Barclays Capital analyst.
Moody’s currently rates Chinese government bonds as A1, its fifth highest rating and one notch below Aa3. China’s bonds were upgraded from A2 in November 2009.
“With net international financial assets equal to about 50% of GDP--bolstered by almost $2.5 trillion in official foreign exchange holdings--only a handful of highly rated advanced industrial economies, such as Norway, Switzerland, Japan, Hong Kong and Singapore, have a stronger international investment position than China,” Moody’s said.
Moody’s said it believes the rebalancing of China’s economy toward domestic consumption is already underway, and is likely to intensify in the future due to rapid wage growth.
“Since last year, private consumption has been rising as fast as, or even faster than nominal GDP growth,” Moody’s said.
Last month, Moody’s changed its outlook on China’s biggest four state-owned banks to stable from positive, but maintained its A1 credit rating for each institution. “The likelihood of an upgrade in their ratings has diminished in view of their current challenges,” Moody’s said at the time.
On a stand-alone basis, the banks deserve a lower Ba rating on the global rating scale, but Moody’s assumes “a very high degree of government support for their ratings.”