Elliot Clarke, Research Analyst at Westpac, explains that there are two aspects of China’s national debt that set it apart and the first is that corporate debt is a multiple of household and government debt: 166% of GDP to just 44% and 46% respectively.
“More important though is the way credit is provided: a complex, interconnected system of bank and non–bank financial institutions that operate on and off balance sheet.”
“As at July 2017, China bank loans recorded by the aggregate financing data stood at RMB117trn (around 150% of GDP). PBoC data indicate that about half of these outstanding loans and other claims (marketable assets, etc) are assets of the largest banks.”
“The remainder is equally split between small and medium-sized banks, the pace of growth for the small banks being of particular note.”
“Whereas large bank assets rose at a 12% annual average pace between December 2009 and December 2016, the pace of growth for small bank assets has been closer to 30%pa.”
“Growth in small bank claims on each of the major non–financial sectors (government; corporates; and ‘other’, i.e. households) has been materially stronger than for large banks.”
“But lending to ‘other financials’ is the area that really stands out. The comparable annual growth rate for this sub–sector over 2010–2016 is 83%; liabilities to ‘other financials’ now make up 20% of total small bank assets. Note that this lending is in excess of that to ‘other depository corporations’ (other banks) which stands at 18% of assets, having grown at a 34%pa average pace.”
“Large bank lending to ‘other depository corporations’ and ‘other financial corporations’ has in contrast grown 13% and 26%pa respectively, leaving the two sub categories combined share of total assets at 16% (versus 38% for small banks).”
“The scale of lending to other financials by the banks highlights the significance of the shadow banking system and how interconnected it is with the banks.”
“This is not a coincidence. The system developed to meet the private–sector’s need for credit at a time when banks and regulators had a strong desire for bank lending to preference State–Owned Enterprises (SOE’s). Funding meanwhile came from households seeking investments with positive real returns. While banks were best placed to diversify their operations off balance sheet, other non–financial institutions also participated with great enthusiasm.”
“The shadow operations of the banks are only partly captured by the aggregate financing data (entrusted loans and banker’s acceptance bills, a combined RMB18trn). Wealth Management Products (WMP’s) have allowed banks to raise a further RMB29trn to on–lend and/or invest.”
“Away from the banks, a further RMB18trn in credit has been provided by non– bank financial institutions to the Chinese economy, based on estimates from Moody’s and the Financial Stability Board as at end–2016. This estimate is only a guide, one that is best considered a lower bound given the scale of other potential investors (such as insurance companies) as well as the reported rise of peer–to–peer lending and other financial products that are difficult to track.”
“The above says nothing about the credit quality of the underlying assets. It merely highlights the scale and complexity of China’s credit system and the consequent challenge that faces regulators.”
“It is not our expectation that the system will face a large crisis. But there is a very good chance of bouts of instability as regulators take a harder look at the credit quality of assets; the need for adequate capital across both systems; and sound funding.”
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