In previous columns, we estimated the excess debt in the Chinese economy to be approximately US$3.1 trillion and still growing. This is of course an enormous figure, and represents the largest non performing loan aggregation in the world by far. It obviously constitutes a considerable overhang on the Chinese economy.
Therefore, the regulatory response must be equally profound in their attempt to orchestrate an orderly deflating of this credit excess. The Chinese authorities have already started addressing the topic in earnest, and in our view, will continue to push forward with a multipronged, market-based solution.
In the past year, the Chinese Banking Regulatory Commission (CBRC) has accelerated regulatory initiatives to address creative accounting practices employed by banks to understate credit exposure and warehouse problem loans. And most recently, the CBRC enacted Circular 46, which accelerates enforcement procedures against prohibited accounting practices and requires that they be reversed by November 30. These aggressive measures have caused some consternation within the Chinese banking community and significant volatility in the Chinese financial markets.
The global financial community has taken notice. There has even been speculation in the international financial press that we may be headed toward a Chinese “Lehman moment”. This would be a liquidity event at a bank or substantial financial institution where it is unable to find the cash to honour its maturing debt obligations.
Has the rapid issuance of new regulation been too much, too fast? Why is the CBRC choosing now to accelerate regulations? Is this a policy mis-step, or can China handle it with a diverse toolbox?
The CBRC began accelerating its regulatory push about a year ago, with several key circulars issued in short succession to restrict balance sheet manoeuvres and prohibited accounting practices.
These include: Circular #56 (March 2016): Encouraging Free Market Resolution of NPLs. Asset Management Companies (AMCs), essentially China’s “bad” banks, are required to acquire NPLs at fair market value and are restricted from pre-setting prices with the selling banks. Furthermore, AMCs are prohibited from assisting banks in simulating transfers of NPLs off their balance sheets.
Source: South China Morning Post