China’s financial markets face closer government scrutiny
The US Treasury’s first currency-manipulation report due next month and the appointment of a new banking regulator in China, are the focus of global fund managers as reserves and GDP growth in China stayed at US$3 trillion and 6.5%-plus, respectively. The managers struggled to give Beijing the benefit of the doubt on exchange-rate and oversight direction and were further dismayed by trade retaliation against South Korea for missile defense moves with the United States.
In February China recorded its first trade deficit in years, likely due to the Lunar New Year. Consumer inflation is forecast at 3%, and the money supply will again increase at a double-digit pace. The fiscal gap will decline slightly to 3% this year as industry and infrastructure-related fixed-asset outlays grow by only 9%. Outward direct investment fell in January to a 15-month low, and another US$4.5 trillion in total debt (20% of output) was added in 2016, according to official statistics. The banking system, with US$33 trillion in assets, now tops the Eurozone and is twice US holdings. The Bank for International Settlements cited a credit-to-GDP growth disparity over 25%, with 10% the historic threshold for a crisis.
Premier Li Keqiang tweaked the longstanding “stable Yuan” policy by calling for a “stable global monetary position” amid continued liberalization. China’s State Administration of Foreign Exchange (SAFE) pledged more competitive, flexible domestic markets and the gradual lifting of conversion limits, although the opening would be “microscopic” at first.
In what securities giant Goldman Sachs described as a “significant development”, SAFE allowed foreign institutions to hedge local bond exposure. But daily trading volume was just US$18 billion in February, half the amount in December, as global financial messaging provider SWIFT reported the renminbi share in cross-border payments fell half a percent to 1.5% in 2016. Global real estate firm Cushman & Wakefield noted that Chinese offshore property investment was almost US$40 billion last year, but it slumped 85% in January with new capital controls. Rating agency Standard and Poor’s warned of sovereign risk from “overreaction” to depreciation and outflow pressures, as Pacific Investment Management Co. (Pimco) repeated the “base case” for a 5% to 7% weakening against the dollar this year.
Premier Li cited dangers from bad loans, bond defaults, shadow and Internet banking, and corporate and household debt leverage, with the latter now at 40% of GDP. President Xi urged financial supervisors to “fix weak links” and uproot illegal activities. The new bank regulator promised to plug loopholes and better coordinate with insurance and securities industry peers. Xi acknowledged the central bank’s finding that off-balance-sheet business is unknown and that wealth-management products now worth almost US$4 trillion may have expanded too rapidly. Fifty investment vehicles suffered losses in 2015 and banks dipped into assets to cover them. But updated rules are to clarify the absence of government guarantees for the high-yield placements.
The Banking Commission listed more than 12,000 creditor committees that had been set up by the end of 2016 to examine problem borrowing equal to 17% of the total. Bankruptcy courts heard 50% more cases than in 2015, with 85% involving liquidations. Property developers, in particular, have been shunned with the introduction of curbs in recent months and forced to raise funds abroad, Local government debt, in turn, has been capped at RMB 19 trillion in the 2017 budget, from the previous RMB 17 trillion, excluding bond swaps where yields are at a two-year high.
The finance ministry believes the ceiling represents “reasonable control,” as the Institute of International Finance (IIF) points out that China is two-thirds of all the US$25 trillion in emerging market corporate debt, and the International Monetary Fund (IMF) adds that half of annual expansion is to service past interest. In this environment, distressed state-run funds like Huarong are accumulating portfolios and staff, and their share prices may benefit most from the post-Congress mixed outcomes.