China's Fractional-Reserve Banks

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China’s banks
are veering out of control. The half-reformed economy of the People’s
Republic cannot absorb the $1,000bn (£600bn) blitz of new
lending issued since December.

Money is leaking
instead into Shanghai’s stock casino, or being used to keep bankrupt
builders on life support. It is doing very little to help lift the
world economy out of slump.

Fitch Ratings
has been warning for some time that China’s lenders are wading into
dangerous waters, but its latest report is even grimmer than bears
had suspected.

"With
much of the world immersed in crisis, China appears to be one of
the few countries where the financial system continues to function
largely without a glitch, but Fitch is growing increasingly wary,"
it said.

"Future
losses on stimulus could turn out to be larger than expected, and
it is unclear what share the central and/or local governments ultimately
will be willing or able to bear."

Note the phrase
"able to bear". Fitch’s "macro-prudential risk"
indicator for China threatens to jump from category 1 (safe) to
category 3 (Iceland, et al.). This is a surprise to me but Michael
Pettis from Beijing University says China’s public debt may be as
high as 50pc–70pc of GDP when "correctly counted".

The regime
is so hellbent on meeting its growth target of 8pc that it has given
banks an implicit guarantee for what Fitch calls a "massive
lending spree".

Bank exposure
to corporate debt has reached $4,200bn. It is rising at a 30pc rate,
even as profits contract at a 35pc rate.

Fitch traces
the 2009 bubble to the central bank’s decision to cut interest on
reserves to 0.72pc. Bankers responded to this "margin squeeze"
by ramping up the volume of lending instead. Over half the new debt
is short-term. Roll-over risk is rocketing. China’s monetary stimulus
since November is arguably more extreme than the post-Lehman printing
of the US Federal Reserve, though less obvious to the untrained
eye.

Under the Taylor
Rule, US policy remains tight (for the US). China’s policy is loose
(for China). New loans doubled in May from a year earlier, almost
entirely to companies.

Read
the rest of the article

June
30, 2009

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