Almost half of the shadow banking products that have fuelled China’s credit boom carry an “elevated” risk of default, the International Monetary Fund has warned in its annual review of the world’s second-largest economy.
“Wealth management products” that allow banks to channel credit to local governments, property developers and industries struggling to access normal bank loans grew almost 50 per cent to Rmb40tn ($6trn) last year, according to the IMF’s annual “Article IV” review .
The total value of risky wealth management products and other credit products generated by China’s shadow banking sector was put at Rmb19tn, or about 30 per cent of gross domestic product.
Shadow banking emerged as a force five years ago, ranging from interbank transactions through to wealth management products. By recording the products off-balance sheet, or by classifying them as “investments” rather than loans, banks are able to report higher capital adequacy ratios and set aside smaller provisions against bad loans.
China’s overall debt level has soared in recent years to about 240 per cent of GDP, driven by a surge in lending to non-financial state-owned enterprises that absorb about half of all bank lending but account for only about 20 per cent of industrial output. Many analysts point to the proliferation of wealth management products, some of which promise investors yields of up to 14 per cent, as China’s greatest risk to financial sector stability.
Healthy growth for the Chinese economy depends on “the extent to which credit growth . . . is reined in,” James Daniel, the IMF’s China mission chief, said in a conference call on Friday.
While the IMF noted that China’s big four state banks have relatively small exposure to wealth management products, it added that “several other listed banks and [unlisted banks] in aggregate have exposures that are several times their capital”. Just over Rmb15tn of China’s outstanding wealth management products are held by banks, accounting for 8 per cent of their assets and more than 90 per cent of the capital buffers that protect them from losses.
“These positions appear to be motivated in part by some banks’ practice of repacking deteriorating loans into investment securities to avoid recognising and [provisioning] for non-performing loans,” the IMF warned in its review.
The fund forecasts that China’s economy will grow by 6.6 per cent this year — at the lower end of the government’s target range of 6.5 to 7 per cent — and then slow further to 5.9 per cent by 2020.
Mr Daniel said a “proactive” approach to structural reforms could boost the country’s longer-term growth potential — “but at the cost of weaker short-term growth as highly indebted firms are restructured”.
He added: “China’s corporate debt is still manageable but, at approximately 145 per cent of GDP, it is high by any measure.”
In its review, the IMF urged Beijing to restructure or dissolve highly indebted “zombie” companies, starting with companies in “dynamic regions” whose workers would be able to find jobs relatively easily. It added that “comprehensive restructuring” in industrial sectors beset by overcapacity could result in 8m job losses.
Jin Zhongxia, Beijing’s representative to the IMF, noted in an official response to the report that 13m new jobs had been created in 2015, as well as another 7m in the first half of this year.
“China has committed to structural changes aimed at long-term potential rather than short-term growth numbers,” Mr Jin said. “It has been widely accepted that the slowdown is a needed transition to the new sustainable growth path. China [will] not rely on excessive stimulus to pursue unrealistic targets.”
Earlier this week, the Supreme People’s Court authorised the establishment of a specialised bankruptcy tribunal to hasten corporate restructurings.
Sheng Laiyun, China’s chief statistician, on Friday said the country’s house price surge had also come to an end, after announcing broadly downbeat data that pointed to a slowdown in housing and fixed asset investment. Rampant home prices have been a hallmark of China’s economy, with the latest rally, which began in mid-2014, fuelled by easy credit.
Real estate investment and sales slowed for the third successive month in July, suggesting that economic growth would moderate in the third quarter after increasing 6.7 per cent over the first six months of this year.