While we are new to China’s banking system and its policies, we do know a thing or two about Shadow Banking. That’s why recent articles tying China’s credit boom to Shadow Banking activities have us paying attention. Here’s what recent reports are saying about the matter.
From Forbes: Overall credit in China is now at $23 trillion, up from $9 trillion in 2008. “A major problem is that much of this incredible surge in credit has been channeled through the shadow banking sector, which is very closely connected to the banks. Total non-loan credit hit $5.6 trillion in 2012, with nearly $2 trillion of that credit extended by opaque non-bank financial institutions, Fitch’s research shows. Furthermore, more than $2 trillion were connected to informal securitization of bank assets in so-called wealth management products (WMP).”
“At the same time, short-term financing rates like the 7-day repo and the three-month Shanghai interbank rate have shot up in June. “We believe the series of policy tightening measures applied to the shadow banking sector in the past three months has reached a critical mass, such that deleveraging in the banking sector is happening,” said Nomura.
Reuters also commented on the new Fitch report: “China has tens of thousands of non-bank lenders that are providing increasing amounts of credit to businesses and government outside the mainstream, regulated banking sector, a situation that is stoking systemic risk, Fitch said… ‘It is a wild west atmosphere in many respects and that is one of the reasons why we are so worried,’ Fitch Senior Director Charlene Chu told a conference in Frankfurt.”
The Wall Street Journal published a Q&A with Joe Zhang, a former UBS equities trader in Hong Kong and later chairman of microfinance company Wansui Micro Credit in Guangzhou, China. Mr. Zhang had the following comments:
“I find shadow banking assets are very safe in general. We manage our own money very carefully. Given the tough regulation, we are not able to take too much risk even if we want to. But the rapid growth of shadow banking reflects on the failure of the much bigger formal banking system. For six decades, financial repression in China takes the form of regulated interest rates being significantly below inflation. That leads to rapid credit growth. Banks are forced to increase loans rapidly year after year. But sensible lending opportunities are not growing that fast. Therefore, banks are forced to lower lending standards, leading to growth of their own subprime lending. Of course, low interest rates send false signals about the viability of loans.”
While there are concerns everywhere about China’s credit boom, some scenarios appear more manageable than others. Speaking to Citywire, Ramin Toloui, PIMCO’s global co-head of emerging markets portfolio management, said: “‘Our analysis shows that even under a severe set of assumptions, the costs are manageable at present.’ However, he cautions that in a scenario where the rapid growth of shadow credit continues, the cost of a banking bailout would ‘rise dramatically’.”
As China is more integrated than ever into the global financing market, the threat of a Chinese Shadow Banking/securitization bubble popping should be on the radar screens of banks and asset managers worldwide.