O N NOVEMBER 25TH China National Radio launched a mini-series to laud President Xi Jinping’s stewardship of the economy. For a state broadcaster, that might sound perfectly normal. But the theme of its first report was neither China’s stellar growth nor its sparkling innovations. Rather than such standard fare for propagandists, it focused on creditor committees, which aim to restructure companies that have run into financial difficulties. It was the latest sign of China’s rapid shift from denying that it had a debt problem just a few years ago to grappling with it publicly.

The bond market bears out the change. It was only in 2014 that China experienced its first default on a domestically traded bond. In 2018 defaults hit 117bn yuan ($16.5bn), triple the previous high. This year defaults are on track to reach roughly the same value. About 1% of all issuers defaulted in the first three quarters of this year, just a little below the global level, according to Fitch, a ratings agency. Bond defaults, says S&P Global, another ratings company, are “becoming a norm”.

China’s central bank has tried to convey the message that this new norm is healthy. In its annual financial-stability report, published on November 25th, it said that the rise in defaults reflected the market’s maturation. As investors become more sensitive to risk, it added, they will steer capital towards more deserving firms, making for a stronger economy.

The central bank is right—up to a point. Defaults are part of any efficient bond market. The problem for China is that the broader trend masks a chasm between state-owned and private companies. Of the firms that have missed payments on bonds this year, 89% have come from the private sector, according to Fitch. S&P Global calculates that 12% of private issuers since 2014 have defaulted, compared with just 0.2% of state firms. Over the past two years, private Chinese companies have been more likely than global issuers of junk-rated bonds to default.

This has only reinforced investors’ tendency to prefer state firms, in the belief that the government will usually act as a backstop. State firms have issued the vast majority of bonds in China this year; private firms have been all but shut out. In other words, it is not necessarily the most deserving firms that are attracting capital, as the central bank would like, but rather the best-connected firms.

The simplest way for China to change this is to allow more state-owned companies to default. The few that have missed bond payments in recent years have not been enough to persuade investors that government is cutting them loose.

So it was notable on November 22nd when Tewoo Group, a commodities trader owned by the city of Tianjin, asked creditors to take haircuts of up to 64% on their principal. Although its bonds were sold offshore, the impact will be felt domestically, because many creditors were Chinese. An eventual default would be the biggest on overseas bonds issued by a Chinese state firm since the late 1990s. But it is also only one step. Propaganda will serve as a good test: when the state broadcaster starts loudly reporting on the woes of state-owned firms, it will be clear that China has truly turned a corner. ■