A rapid increase in debt within China’s financial system is among the largest risks the Australian economy is facing, the head of the Reserve Bank says.

RBA Governor Philip Lowe says the central bank is keeping a very close eye on China and its economy, with more of its staff looking at Australia’s largest trading partner than any other overseas economy.

It is important that the RBA understands the difference between political systems, governance arrangements and financial systems in each country, as what happens in China matters to all Australians, Dr Lowe told an event hosted by the Australia-China Relations Institute.

And he highlighted the rapid increase in China’s ratio of debt to gross domestic product over the last 10 years, increasing the level of risk in its financial system.

‘Among the largest economic risks that Australia faces is something going wrong in China,’ Dr Lowe said.

‘Perhaps the single biggest risk to the Chinese economy at the moment lies in the financial sector and the big run-up in debt there over the past decade.’

Chinese authorities are clearly taking the issue seriously, he said, and they are making progress.

But it is too early to tell whether authorities will be able to manage the transition from a growth model that depends heavily on rising debt to one that in which credit is less central, Dr Lowe said.

‘The experience of other countries suggests caution and, elsewhere, there have been serious accidents along the way,’ he said.

‘The Chinese authorities can learn from this experience and are now moving in the right direction.’