Abstract: Although current law prohibits local governments from providing guarantees, some local governments still issue guarantees in violation of the law for purposes such as raising funds. When debtors lack both the capacity and willingness to repay, a large number of cases emerge in which plaintiffs request that local governments and their subordinate departments perform guarantee liabilities. While judicial interpretations clarify the types and proportions of liability that local governments may bear, local courts vary substantially in determining (i) whether local governments should bear guarantee liability at all, and (ii) the proportion of such liability.Based on a quantitative empirical study of 451 civil judgments involving local government guarantees from 2000 to 2022, this article finds that in regions with higher debt pressure, courts are more inclined to rule that local governments bear no guarantee liability or bear only a lower proportion of liability. This finding supports the hypothesis that, when adjudicating civil cases involving local governments, courts tend to protect local government interests and are significantly influenced by fiscal pressure. For purposes of resolving disputes involving local government guarantees, judicial authorities should not only relax the categorical denial of guarantee-contract validity—grounded in the principle of good faith and a balanced assessment of public interests and government interests—but also revise liability-allocation rules so as to impose effective constraints on local governments.

1. Issue Statement and Literature Review

The 2014 revision of the Budget Law of the People’s Republic of China (hereinafter the “Budget Law”) granted local governments the legal authority to borrow and raise financing, while at the same time prohibiting local governments and their subordinate departments from providing guarantees in any form. However, despite this explicit statutory ban, many local governments have continued to incur illegal and noncompliant off-budget debt through guarantees. As a result, debts for which local governments bear guarantee obligations have not decreased but instead continued to rise, with irregular guarantees emerging repeatedly and proving difficult to eradicate. To prevent the expansion of hidden local government debt, the central authorities have repeatedly carried out inspections and cleanups of unlawfully issued guarantee letters and letters of undertaking with fiscal implications; in response, some local governments even, at one point, withdrew undertaking letters they had previously issued. All of these developments underscore both the real-world salience and the complexity of local government guarantees.

Compared with bailout-type contingent liabilities, local governments have invoked the provision that “organ legal persons may not serve as guarantors” as a basis for arguing that guarantee-type contingent liabilities allow greater room for contestation. This has generated substantial judicial controversy, and the proportion of liability allocated to local governments in judicial decisions directly reshapes the distribution of interests between the litigating parties. Some courts hold that government guarantees are invalid but that local governments are at fault and therefore should bear half of the portion of the debt that the debtor cannot repay; many other courts hold that the guarantee is invalid and that local governments need not bear any liability; a few courts hold that the guarantee is valid and that local governments must assume joint and several liability for the debt; still other courts hold that even if the guarantee is invalid, local governments must nevertheless assume joint and several compensatory liability. Yet if courts apply the same legal rules to similar cases, why do they reach sharply divergent determinations regarding the share of liability borne by local governments in civil cases involving government guarantees?

Given the judiciary’s role in resolving disputes, adjudication should be neutral. But the “different judgments in similar cases” observed in practice in government-guarantee disputes invites speculation: in adjudicating local government guarantee cases, do courts exhibit a tendency either to compel governments to honor their commitments or to help governments evade or reduce legal liabilities they should otherwise bear? If such a tendency exists, what explains it—an accidental outcome driven by differences in judicial cognition and experiential decision-making, a systematic result produced by incomplete legal norms, or adjudicative bias shaped by the objective environment in which judges operate? Is the local debt burden that accompanies government guarantees correlated with the variation in judicial outcomes in these cases? These questions warrant rigorous examination.

Courts are widely expected to deliver impartial justice, yet extensive domestic and international scholarship has documented the non-neutrality of certain past and present adjudicative activities, with one typical manifestation being pro–local government bias. Some scholars find that, in disputes between local governments and ordinary citizens or market actors, courts tend to protect local governments, thereby exposing deficiencies in China’s courts in constraining local government opportunism and safeguarding private investors. The existence of such non-neutrality has prompted sustained reflection and broad research on the role positioning, behavioral patterns, and influencing factors of the judges who actually preside over cases. Because judges’ decisions are unavoidably affected by diverse external environmental factors, a large body of empirical work has sought to identify the specific determinants of judicial outcomes. These determinants largely fall into two categories: (1) the parties’ resources and litigation capacity; and (2) the economic incentives generated by local fiscal stress. A typical adverse consequence of the latter in adjudication is judicial localism and the administrativization of the judiciary. Judicial localism takes two forms: one is judicial local protectionism that favors local parties; the other is the tendency toward convergent judicial determinations within a given jurisdiction as a result of collective decision-making among judges. The administrativization of the judiciary refers to “a phenomenon, arising from institutional and procedural reasons, in which administrative power interferes with judicial power and violates judicial independence.”

Although the influence of local governments on judicial determinations has drawn wide academic attention, existing research still has clear limitations. On the one hand, studies of court–government–citizen relations have largely concentrated on administrative litigation, with relatively little work in the domain of civil litigation. On the other hand, the literature on the relationship between judicial decisions and local fiscal stress has mainly offered general conclusions rather than more specific and micro-level evidence. This article focuses on judicial decisions in disputes involving local government guarantees. Beyond allowing close attention to courts’ preferential choices in civil and commercial cases when facing local governments versus other types of parties, it is more important that courts’ determinations of guarantee validity and liability shares in such cases entail local government expenditures and directly affect fiscal stress, thereby enabling a clearer identification of the linkage between judicial determinations and fiscal pressure. The article’s innovation lies precisely in employing quantitative empirical methods to test whether a correlation exists between local debt pressure and judicial determinations in government-guarantee cases, focusing on how the judiciary operates in local debt governance and offering more fine-grained actionable measures, while providing more direct evidence on the relationship between judicial behavior and local government fiscal stress.

2. Institutional Background and Research Hypotheses

2.1The institutional evolution of restrictions on local government guarantees

In the early years of Reform and Opening Up, amid a wave of government organs engaging in commerce and enterprise-building, newly emerging firms were relatively weak. Government-provided guarantees could reduce transaction risk and improve market efficiency. The State Council’s “fiscal contracting” system (caizheng baogan) left local finances relatively well-resourced, but it also induced corporate moral hazard, increasing local governments’ debt-subrogation burdens and triggering a large number of disputes over local government guarantees. Against this backdrop, China began to regulate local government guarantee practices. Taking into account governments’ administrative and public-service functions as well as the principle that earmarked fiscal funds must be used for designated purposes, the Supreme People’s Court in 1988 issued the Opinions on Several Issues Concerning the Implementation of the General Principles of the Civil Law of the People’s Republic of China (Trial), whose Article 106 provides that “state organs may not act as guarantors,” while not prohibiting other forms of security. In 1993, the State Council promulgated the Notice on Strictly Prohibiting Administrative Organs from Providing Guarantees for Economic Activities, which to some extent filled this gap: it identified administrative-organ guarantees for economic activities as harmful and expanded the prohibition to all government guarantee conduct.

After the 1994 tax-sharing reform, the mismatch between local governments’ fiscal powers and expenditure responsibilities intensified their demand for borrowing. Although the 1994 Budget Law prohibited local governments from issuing government bonds, to fill revenue–expenditure gaps local governments incurred debt in disguised forms—such as issuing bonds through financing platform companies (local government financing vehicles, LGFVs) or borrowing from banks—and provided large volumes of guarantees. In addition, in order to use loans from foreign governments or international economic organizations to support major national projects and to safeguard national credit, practice developed whereby, when the central government on-lent such loans, it required the provincial-level government or a centrally planned municipality where the project was located to provide repayment security—an “on-lending guarantee” arrangement. Balancing efficiency and risk, Article 8 of the 1995 Guarantee Law of the People’s Republic of Chinaadopted a structure of general prohibition coupled with a special exception: except where, with State Council approval, a guarantee is provided for on-lending foreign-government or international-organization loans, state organs may not act as guarantors. Subsequent legislation largely maintained this stance for decades. Even after the 2014 revision of the Budget Law permitted local governments to issue bonds, Article 35(4) still expressly provides that, unless otherwise prescribed by law, local governments and their departments may not, “in any manner,” provide security for the debts of any entity or individual. This not only refrained from “liberalizing” suretyship by local governments, but expanded the prohibition to all forms of security, including suretyship. Article 683 of the 2021 Civil Code of the People’s Republic of China likewise continues the Guarantee Law’s approach, denying the validity of government guarantee contracts other than on-lending guarantees. In short, Chinese law evolved from prohibiting governments from providing suretyship to prohibiting governments from providing security more broadly, consistently maintaining that only market-oriented entities have the capacity to provide security; state organs, including local governments, lack such capacity.

However, rules on liability borne when government guarantees are invalid differ across periods and instruments. Reviewing provisions on invalid guarantee contracts in the 2000 Judicial Interpretation of the Supreme People’s Court on Some Issues Regarding the Application of the Guarantee Law of the People’s Republic of China (the “2000 Guarantee Law Interpretation”), the 2021 Interpretation by the Supreme People’s Court on the Application of the Relevant Guarantee Regimes of the Civil Code of the People’s Republic of China (the “Civil Code Guarantee Interpretation”), and the 2016 Emergency Response Plan for the Risks in Local Government Debts (the “Emergency Response Plan”) yields the “proportion of liability borne by the guarantor when the guarantee is invalid” summarized in Table 1. The two judicial interpretations are broadly similar; the key difference is this: where the principal contract is valid but the guarantee contract is invalid, and the creditor is without fault while the guarantor is at fault, the 2000 Guarantee Law Interpretation tends to protect the creditor, whereas the Civil Code Guarantee Interpretation reduces the guarantor’s liability in the same situation. This change aims to promote transactions, but it may also intensify local governments’ illegal and non-compliant guarantees. By contrast, the Emergency Response Plan does not differentiate by the cause of invalidity; instead, it adopts a one-size-fits-all cap, setting “one-half of the part that the debtor cannot repay” as the upper limit on the liability proportion. This divergence stems from differences in instrument type and policy objectives: laws and judicial interpretations pursue stability, whereas the Emergency Response Plan, as a policy document, focuses on disposing of local debt risks, keeping risks controllable, and preventing fiscal–financial risk. Its liability cap reflects a comprehensive assessment of the macroeconomic environment at the time, local debt pressure, and risk-control needs.

Overall, at the legislative level, the validity of local government security other than on-lending guarantees is consistently denied and treated as void ab initio. At the central administrative level, while new guarantees have been consistently prohibited, approaches to handling existing (stock) local government guarantees have been adjusted in response to changing economic conditions and debt pressure. Under expansionary fiscal policies after the 2008 subprime crisis, illegal local guarantees became frequent. After economic recovery from 2010 onward, the central government issued a dense stream of documents strictly prohibiting illegal guarantees to prevent debt risks from transmitting and interacting across the fiscal and financial systems. In 2014, the State Council stated that liability for existing guarantees “should not be evaded,” but policy reversed in 2016: existing guaranteed debts were clarified as non-government debt, and local governments would bear only appropriate civil compensatory liability rather than repayment liability. This shift reflected the central government’s recognition—under heavier debt pressure—of the law’s tendency to protect government interests; accordingly, the Emergency Response Plan excluded the scenario where the creditor is without fault, signaling a subtle adjustment in expectations regarding performance liability. The Report of the State Council on the Rectification of Problems Identified in the Audit of the Central Budget Execution and Other Fiscal Revenues and Expenditures for 2016(2017) directly shows that localities rectified illegal guarantees through measures such as amending agreements, revoking letters, and early repayment, corroborating contemporaneous practices in which local governments unilaterally withdrew guarantee letters or commitment letters, or sought to evade and repudiate debts.

2.2Exploring the determinants of judicial decisions in cases involving local government guarantees

Do differences between the legislative stance and the administrative stance negatively affect courts’ ability to adjudicate impartially? Part of the answer can be inferred from relevant documents issued by the Supreme People’s Court (SPC). A 2013 SPC document, in Article 5, emphasizes that courts must adhere to the principle of independently exercising adjudicative power in accordance with law, firmly resist all forms of local and departmental protectionism, and resolutely exclude interference from any extralegal factors. A document issued ten years later states more directly that the weaker position of some micro, small and medium-sized enterprises (MSMEs) in market transactions can translate into a disadvantageous position in judicial proceedings. The judiciary has been subject to relatively persistent influence from local administrative power; the resulting practical problem—enterprises being placed at a disadvantage in litigation—has prompted the SPC to reiterate and further specify requirements of judicial fairness. This invites a further inquiry: does local debt pressure affect the proportion of liability assigned to the government in judicial decisions? Ordinarily, adjudicative independence is a foundational principle in a rule-of-law state. Local debt pressure may indirectly affect funding allocation and operational efficiency within the judicial system, but whether such influence is directly reflected in adjudicative outcomes requires empirical analysis.

A case from Guizhou Province—where debt pressure is relatively high—illustrates the issue. The Qianxinan Prefecture Intermediate People’s Court and the Guizhou High People’s Court successively rejected the creditor Pacific Company’s request that the guarantor, the Anlong County People’s Government, be ordered to assume joint and several liability for repayment of the debts owed by the debtor, Anlong County Basic Construction Investment and Development Company—i.e., the government’s liability proportion was zero. However, upon retrial, the Supreme People’s Court held that the Anlong County People’s Government should bear compensatory liability equal to one-half of the portion the debtor could not repay, thereby increasing the government’s liability proportion. This case clearly shows that local adjudication may be influenced by local debt pressure, creating a tendency to reduce the proportion of liability borne by local governments.

A preliminary search and close reading of civil judgments in cases involving local government guarantees reveals another anomaly observed across multiple regions: in some courts, outcomes differ sharply before and after local debt risks become salient. Taking Guizhou again as an example, in a 2018 judgment by the Anshun Intermediate People’s Court, the government’s liability proportion was 100%; yet in a 2020 judgment, the court shifted its position and reduced the government’s liability proportion to one-half of the portion the debtor could not repay. These patterns suggest that courts’ determinations of local-government liability proportions in the context of invalid guarantees are closely tied to local debt pressure. As debt pressure has generally trended upward year by year across China, the corresponding trend in adjudication is a decline in the liability proportion imposed on local governments in guarantee disputes.

Accordingly, debt pressure—an important indicator of fiscal stress—may be the most significant reason why judges, when deciding disputes involving local government guarantees, do not strictly follow judicial interpretations. On the one hand, rising local debt pressure increases local fiscal stress, which often affects multiple dimensions of government operations; as part of the “larger government,” the judicial system is unlikely to remain unaffected. On the other hand, local governments’ implicit debt is closely linked to the implicit guarantees they provide when incurring debt in disguised forms through financing platforms and state-owned enterprises; and since 2000, most cases involving local government guarantees have likewise arisen alongside implicit debt. On this basis, the article proposes the following hypotheses and tests them using econometric methods: local debt pressure affects courts’ rulings in disputes over local government guarantees; the greater the local debt pressure, the more likely courts are to rule that local governments bear a lower proportion of liability.

III. Model, Variables, and Data

31.Model specification

To examine whether—and how—local debt pressure affects judicial adjudication in civil cases involving local government guarantees, this study adopts a quantitative empirical approach and specifies the following regression function:

Yit=α+β0Xit+β1Zit+μp+εit

Here, Yit is the dependent variable, indicating the liability outcome borne by the government side in civil cases involving local government guarantees adjudicated in province i in year t. Xit is the core explanatory variable, capturing the level of debt pressure in province (i) in year (t). Zitdenotes a set of control variables. β0 and β1are the coefficients on the core explanatory variable and the control variables, respectively. The coefficient of greatest interest is \beta0: its sign and statistical significance directly determine whether the study’s hypothesis is supported. α is the intercept term; μp represents province fixed effects; and εit is the stochastic error term.

3.2Variable selection and data sources

The dependent variable is the proportion of liability borne by local governments in guarantee disputes. At the end of 2023, the authors retrieved and downloaded 451 valid case samples from PKULaw (Beida Fabao). A review of the full sample suggests that where a local government, knowing that it lacks authority to provide a guarantee, nevertheless enters into a guarantee contract with a creditor, it must be at fault. As the guarantor, the local government should not bear zero liability for an invalid guarantee, even if the proportion would otherwise be low. Accordingly, where the final judgment imposes no liability on the local government—i.e., the government liability proportion equals 0—the court can be understood as reducing the local government’s responsibility, and such outcomes should be classified as lenient adjudication. The study therefore constructs a binary dummy variable based on whether the local government bears liability: cases in which the local government bears no liability (liability proportion = 0) are coded as 0; cases in which the local government bears liability (liability proportion > 0) are coded as 1.

Explanatory variables. Local debt pressure can be measured using absolute and relative metrics: the absolute metric is the local debt balance, while the relative metric is the local debt ratio. To comprehensively capture overall local government debt pressure, it is more appropriate to use augmented debt balance and the augmented debt-to-revenue ratio as explanatory variables. In statistical terms, the augmented debt balance primarily refers to the sum of (i) the local government debt balance and (ii) the balance of Chengtou bonds (LGFV bonds). The augmented debt-to-revenue ratio generally refers to the share of augmented debt balance in local fiscal revenue. Because general public budget revenue and government fund revenue correspond to repayment sources for general bonds and special bonds, respectively, local fiscal revenue is measured as the sum of general public budget revenue and government fund revenue. It should be noted that the debt-balance variable has large magnitudes, and extreme values may affect the robustness of the regression results. To mitigate heteroskedasticity, the debt-balance variable is therefore log-transformed.

Control variables. The core concepts of the research question—“local debt pressure” and “judicial adjudication”—indicate that the relevant data fall primarily into two categories: economic factors and legal factors. The control variables are correspondingly divided along the same lines. Economic-factor controls are selected mainly from economic indicators expected to be highly correlated with the main variables. Because the economic-level variable shares similar properties with the debt-balance variable, it is likewise log-transformed. Legal-factor controls are primarily extracted from the text of judgments as elements that may influence court decisions.

Variable definitions are reported in Table 2.

5. Empirical Results and Analysis

5.1Descriptive statistics

The case sample indicates substantial variation in courts’ determinations of the proportion of liability borne by local governments (see Table 3). More than 40% of cases are decided by applying the liability cap set out in the SPC judicial interpretations, and in more than one-third of cases local governments bear no liability at all. At the same time, nearly 15% of cases hold local governments liable for the full amount under a joint and several liability guarantee. Given that creditors typically request, in their claims against local governments, that the government assume joint and several liability for repayment of principal, interest, and related amounts, the creditor win rate in government-guarantee disputes can be assessed as close to 15%. Compared with administrative litigation—where plaintiffs as “administrative counterparts” prevail at around 30%—local governments have a higher win rate in cases involving government guarantees.

From a temporal perspective, as shown in Figure 1, the overall trend in liability proportions is not clear because the number of cases during 2007–2011 is relatively small. The year 2012 exhibits the strongest tendency for courts to hold local governments liable. During 2013–2022, the overall share of cases in which local governments bear liability shows a downward trend, with occasional short-lived increases in certain years. At the macro level, during 2012–2022, both the augmented debt-to-revenue ratio and the share of cases in which local governments bear no liability trend upward, suggesting to some extent that local debt pressure has a negative effect on courts’ determinations of local-government liability in guarantee disputes.

From a spatial perspective, as shown in Figure 2, there is substantial regional variation in the absolute number of local-government guarantee cases. With respect to the relative share of cases in which governments bear liability, Figure 2 shows that among provinces with sample sizes of at least three, there is no clear relationship between provinces/regions and the proportion of liability imposed on local governments. This may be attributable to differences across regions in the level of disclosure of judgments, which produces very small samples in some jurisdictions and prevents a clear identification of the underlying pattern. Overall, the association between local debt pressure and the share of “no-liability” outcomes is more evident over time than across space. Simple descriptive statistics also indicate that not all provinces fit the study’s hypothesis, and a more refined regression model is therefore needed to further identify how local debt pressure affects judicial determinations in cases involving local government guarantees.

6. Governance Pathways for Divergent Judicial Outcomes in Cases Involving Local Government Guarantees

6.1Strengthening adjudicative independence in cases involving local government guarantees

Statistical analysis shows that even where SPC judicial interpretations clearly set the maximum liability cap at one-half, nearly 15% of courts still hold local governments liable under a **joint and several liability guarantee**. Many judges, in individual cases, engage in active “judge-made law,” attempting to balance the interests of different parties. Nevertheless, the econometric regression results indicate that judicial determinations are significantly influenced by local government debt pressure. Adjudicative independence therefore requires further strengthening, and interference by local governments in judicial decision-making should be further reduced. As one formulation puts it, “China is a unitary state; in a fundamental sense, judicial power is a central governmental function.” Although since 2014 the central authorities have established a new judicial institutional model of “central authority with provincial unified management” and have actively advanced reforms under which personnel, finances, and assets of sub-provincial local courts are placed under unified provincial management—seeking to reduce local-government interference through the centralization of judicial power—the achievements to date remain limited. The reforms have reduced the degree of judicial localization but have not resolved all problems of judicial localization. Given the potential influence of local government debt pressure on judicial adjudication, the provincial unified-management reform should be deepened in order to further consolidate and enhance adjudicative independence.

6.2.Optimizing judicial determination of validity and liability in local government guarantee disputes

The Budget Law, the Civil Code, and related instruments all continue the legislative logic of restricting local governments’ ability to provide guarantees. However, in light of today’s realities—high local debt burdens and deep government involvement in local economies—the background assumptions underlying this restrictive logic have changed, and the rules governing the validity of local government guarantees warrant reconsideration and adjustment. At the same time, directly lifting the ban on local government guarantees could generate fiscal, legal, and moral-hazard risks, especially risks of illicit benefit transfers. A more prudent approach is therefore to optimize judicial norms and their application paths for determining contract validity and allocating liability in cases involving local government guarantees, **within** the existing legal framework that prohibits such guarantees.

6.3. Defining “public interest” and balancing values in determining the validity of local government guarantees

Legislative restrictions on local government guarantees aim to ensure fiscal sustainability and thereby safeguard the public interest. However, “public interest” is an indeterminate, value-laden legal concept, which creates the risk that it may be invoked and applied arbitrarily in judicial practice. In light of the regression results, prior adjudication often appears to equate local government interests with the public interest, leading to frequent unfairness and undermining both the development of a sound business environment and the improvement of mechanisms requiring local governments to honor commitments.

In adjudicating cases involving local government guarantees, courts primarily confront three value orientations: safeguarding the public interest, safeguarding local government interests, and emphasizing the principle of good faith. Local government guarantees and local debt are often undertaken to serve legitimate local interests and can play an important role in local development. Although government is a representative of social public interest, local government interests are not identical to public interest; for this reason, some courts have departed from SPC judicial interpretations and ordered local governments to bear greater liability. Courts should therefore not assume that “ordering the government to bear liability necessarily harms the public interest.” Instead, on the basis of the principle of good faith and the protection of creditor interests, courts should carefully assess whether, and how, a local government guarantee is connected to the social public interest. How the “public interest” scope is defined in government-guarantee disputes affects the direction of validity determinations. To ensure that determinations of validity are aligned with the objective of protecting public interest, the scope of public interest should be defined reasonably and strictly. If the original purpose of local government guarantees is to meet financing needs within the lawful scope of government functions, then guarantees provided for liabilities arising from matters within that functional scope may be regarded as consistent with public interest. Accordingly, it is appropriate to confine the public-interest scope in local government guarantee disputes to **public-welfare, non-commercial projects in the public sector**, which is consistent with Article 3 of the *Regulation on Government Investment* and reflects the public and statutory nature of government functions.

At the same time, the central role of the principle of good faith in this process should not be overlooked. Once a local government chooses to participate in civil transactions as a market actor, it should comply with the basic principle of good faith. Only where a long-term relationship of trust exists between the public and the government can social stability and development be maintained. A judicial order requiring the government to honor its commitments also embodies an important value orientation, helping to mitigate public doubts about government credibility and judicial fairness.

Because the three value orientations differ in the scope of their impact, their importance and order of application in local government guarantee cases also differ. The public interest concerns society as a whole; the principle of good faith shapes transactional markets; and local government interests primarily affect the government’s own fiscal position and policy implementation. Accordingly, when handling local government guarantee disputes, courts should weigh these values in light of the specific interests implicated. Because the binding force of public interest operates independently of contractual will, where a local government guarantee truly implicates the social public interest, that interest should be given the highest priority; in such circumstances, deeming the guarantee invalid pursuant to law is normatively justified. Conversely, where a case involves only local government interests, courts should prioritize the principle of good faith that protects contractual validity, and relax categorical denial of the validity of local government guarantee contracts. Only in this way can overall social welfare be maximized, ensuring that local government guarantees serve public interest while also giving due weight to the principle of good faith.

6.4. Revising the liability-allocation rules when local government guarantees are invalid

Local government default is closely intertwined with the legal regime of contract invalidity and the rules governing the allocation of liability after a guarantee is declared invalid. Existing rules have failed to effectively deter local governments from defaulting; on the contrary, they may even exacerbate illegal and non-compliant guarantee practices. The reason is straightforward: only when a government clearly understands that it will bear corresponding legal responsibility will it provide guarantees prudently; otherwise, it may continue to issue guarantees casually and then default, thereby generating moral hazard. The fact that local governments knowingly enter into guarantee contracts despite their invalidity, combined with their subsequent posture—refusing to assume guarantee liability when the debt matures and declining mediation while accepting only adjudication—mutually reinforces the inference that local governments expect courts to render decisions favorable to them. Under the legislative framework prohibiting government guarantees, revising the relevant SPC judicial interpretations that set the liability proportions borne by guarantors in cases of invalid guarantees is therefore pivotal.

Imposing administrative accountability and declaring contracts invalid are two important tools for controlling and deterring unlawful conduct. Yet existing statutory rules and judicial interpretations have not created effective constraints on illegal local government guarantees. With respect to administrative accountability, although Article 10 of the Regulations on Penalties and Sanctions for Fiscal Violations addresses the issue, the Ministry of Finance’s notices on typical accountability cases involving local governments’ implicit debt show that, in two cases involving illegal and non-compliant guarantees, the response was merely to “hold the relevant responsible persons accountable,” which provides only limited deterrence against the guarantee behavior itself. On the civil-liability side, the low level of liability imposed on local governments for illegal guarantees likewise fails to create meaningful constraints. In academic debates, the rule that “a guarantor bears one-half of the liability when the guarantee contract is invalid” has been intensely contested; critics argue that it violates the principles governing attribution of liability and ignores the foundational role of fault in determining the proportion of responsibility.

The core controversy is that a local government, knowing it is not permitted to provide a guarantee yet doing so anyway, should have a fault share of at least 50%, and arguably higher. However, the two SPC judicial interpretations provide that where the creditor is at fault for the invalidity of the guarantee contract, the creditor’s fault cannot be less than the guarantor’s—an assumption that conflicts with transactional realities. This constraint means that the local government’s liability proportion can match its level of fault only in the exceptional case where the maximum cap of one-half is applied, which lowers local governments’ expected exposure and may intensify moral hazard when incentives to violate rules arise. Consequently, some courts choose to break through the liability cap, producing divergent outcomes in similar cases. This suggests that theoretical disputes over the maximum liability cap for guarantors in invalid-guarantee situations have already affected adjudicative practice: many judges likewise consider the cap prescribed by judicial interpretations to be inconsistent with basic principles of liability attribution. Given the current situation of insufficient deterrence and unsatisfactory governance outcomes, revising the liability-allocation rules in judicial interpretations for invalid local government guarantees is urgent.

A necessary precondition for revising these rules is to clarify adjudicative standards for the creditor’s “fault” in cases of guarantee invalidity. In practice, the principal targets of government guarantees are debts of local government financing vehicles (LGFVs) or local state-owned enterprises. Although the law clearly prohibits government guarantees, local governments, in order to support financing by these affiliated entities and to facilitate project implementation, sometimes proactively issue illegal guarantees. Creditors, relying on trust in the local government, choose to conclude and perform contracts with the debtor; moreover, the superior position of administrative actors often leads creditors to accept guarantees offered by local governments. Thus, creditors accept local government guarantees to reduce risk, not as a form of “voluntary assumption of risk.” Judicial interpretations should therefore establish an exception: even if a local government guarantee contract is invalid, where the creditor is without fault and has not “assumed the risk voluntarily,” the local government should bear joint and several liability for guarantee liability together with the debtor.

If, however, the creditor truly “assumed the risk voluntarily”—for example, where the local government explicitly informed the creditor that the guarantee it provided was invalid, yet the creditor still demanded the government provide the guarantee—then the existing judicial-interpretation approach should be followed: liability should be allocated according to the parties’ respective degrees of fault, subject to the cap of “one-half of the portion of the debt that the debtor cannot repay.” At the same time, if the creditor that required the local government to provide the guarantee has already been subject to corresponding administrative penalties, then in allocating civil liability the local government’s liability proportion should be appropriately increased to achieve a more balanced distribution of responsibility.

VI. Conclusion

The judiciary is the final line of defense for social fairness and justice, embodying a durable and stable order of justice. Yet local debt pressure has already had a negative impact on judicial adjudication in cases involving local government guarantees, which are closely connected to that debt pressure. The core of the solution lies in how courts, based on a balance among the principle of good faith, the public interest, and local government interests, can relax categorical negation of the validity of guarantee contracts. From the Guarantee Law to the Civil Code, rules invalidating local government guarantees were intended to curb governments’ impulse to provide guarantees, strictly control off-budget expenditures, and safeguard fiscal security.

Today, governance of local debt is complex and highly salient. Directly lifting the ban on local government guarantees would create fiscal, legal, and moral-hazard risks, increase debt pressure, and may facilitate illicit benefit transfers. A more prudent approach is to optimize judicial norms and unify their application within the existing legal framework that prohibits local government guarantees, in order to address (i) determinations of validity and (ii) allocation of liability in such disputes. This requires guarding against improper interference by administrative power in court adjudication and creating a high-quality, efficient business environment through an independent and impartial judicial system. On this basis, courts should appropriately balance the principle of good faith, the public interest, and local government interests; advance the construction of government integrity and credibility; and improve the environment for private-sector economic development.