Moody's cuts China debt rating for first time since 1989

China lowers expectations
China lowers expectations

How's China doing in tackling its growing debt problem? Not great, according to one of the world's top credit rating agencies.

Moody's Investors Service on Wednesday downgraded China's sovereign debt one notch to A1, the agency's fifth-highest rating. It's the first time Moody's has cut the country's credit rating since 1989.

China's financial health will "erode somewhat over the coming years, with economy-wide debt continuing to rise as potential growth slows", the rating agency said in a statement.

The Chinese government is facing the difficult balancing act of trying to rein in the country's high levels of corporate debt while keeping the world's second largest economy growing at a steady clip.

Related: China's economic growth climbs to 6.9% in the first quarter

Beijing's reform efforts are "likely to transform the economy and financial system over time," but they're unlikely to prevent a "material rise" in debt," Moody's said.

China's economy grew 6.9% in the first quarter of this year, picking up the pace from the end of 2016. But economists say they expect it to cool down in coming quarters as government stimulus measures fade.

China's version of the World Bank wants U.S. to join
China's version of the World Bank wants U.S. to join

In reaction to the Moody's downgrade, analysts at Nomura predicted that high debt levels and other financial risks will contribute to a slowdown in China's growth in the years ahead.

Efforts by regulators in recent weeks to clamp down on risky debt in the country's financial system has unsettled investors.

The benchmark Shanghai Composite has fallen more than 7% from the high it reached in April. It added to its losses Wednesday after the Moody's announcement, trading down 0.6% by the early afternoon.

China's Finance Ministry dismissed the downgrade, saying Moody's view overestimated the difficulties facing the Chinese economy and underestimated the government's ability to respond, according to state news agency Xinhua.

Related: China has a grand plan to dominate world trade

After the downgrade, Moody's said it doesn't plan to move China's rating lower than A1, which is still investment grade, anytime soon.

"The erosion in China's credit profile will be gradual and, we expect, eventually contained as reforms deepen," Moody's said.

Beijing should be able to weather any negative shocks, helped by the country's relatively strong economic growth, it added.

The Moody's move brings it more in line with rival agency Fitch, which last downgraded China in April 2013. Fitch's current rating for the country, A+, is its fifth-highest.

Standard & Poor's rates China's debt AA-, the agency's fourth-highest level.

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