China frets over shadow banking system
In March 2013, retired chemical company employee Anne Xing, her older sister and their husbands visited a China Everbright Bank branch on the outskirts of Shanghai. A private wealth manager at the bank had a special deal to offer them.
"He said there is a high-quality product," Xing recalls. "Only elite customers can buy it. We asked him if there was any risk. He said there was no risk."
The two couples sank about 5 million yuan (about $762,000) into the investment product, which offered 9.5 per cent annual interest over two years - substantially higher than the 3.75pc they could earn on a fixed, two-year deposit at the same bank. Xing's sister said she sold a property for 3 million yuan to fund her investment. The two families say they didn't know exactly where the money was going at the time. When the contracts arrived weeks later, it turned out they had entered China's $9.8 trillion shadow banking industry.
By December 2015, the interest payment for the second year was already well overdue and the couples were worried. "Then the sky came crashing down," Xing said. "The money was gone, a couple of million."
Everbright had actually sold the two couples a stake in Chang'an Trust Coal Industry Resource Investment Fund Three A Collective Investment Fund Plan. Their money had been lent to a coal miner that soon went bust. The Chang'an Trust product was one of countless socalled wealth management products sold to investors to help raise money for a massive wave of lending in China that began in the aftermath of the 2008 global financial crisis.
The widely publicised default burned Anne Xing and other investors who now are suing Chang'an. "I've become like the mentally ill, really," says Xing. Amid the acrimony over the loss, Xing says, her sister divorced her husband.
Everbright did not respond to several requests from Reuters for comment. In a written response, Chang'an said: "This case is currently being processed by the courts. Please wait for the judgment."
Conducted outside the normal banking system, lending like this is at the heart of China's massive shadow banking industry. For China's rulers, the fear is that there may be more bad loans in the shadows of the financial system. The danger is that a big default or series of loan losses could cascade through the world's second-biggest economy, leading to a sudden halt in bank lending.
Top leaders in Beijing have acknowledged that the colossal volume of complex and potentially risky lending obscured in shadow banking compounds the threat posed by the economy's tremendous accumulation of debt since the global financial crisis.
Inside and outside China, alarms are now sounding about mounting debt. Zhou Xiaochuan, the head of China's central bank, the People's Bank of China, has openly warned that authorities need to curb financial risks that might lead to a "Minsky Moment" - a sudden collapse of asset prices, sparked by debt or currency pressures, after a long period of growth. Zhou said corporate debt levels were relatively high and household debt was rising fast, in remarks in October on the sidelines of the Communist Party's 19th congress in Beijing.
"We should focus on preventing a dramatic adjustment," he said. A blizzard of regulations, high-profile arrests and official warnings over the last 18 months have sent a clear signal that authorities are attempting to reign in excesses. A veteran of the country's financial reforms, Guo Shuqing, was appointed in February to head the China Banking Regulatory Commission. Guo almost immediately issued a flurry of directives aimed at forcing banks to improve risk management and curb the sale of complex, high-yielding wealth management products to investors.
In November, Beijing set up the Financial Stability and Development Committee, a top-level panel of regulators tasked with policing tougher rules and closing loopholes that allow risky lending. Days later, the People's Bank of China and financial regulators jointly issued new draft rules to govern the wealth manage- ment industry.
China's banking regulator and the central bank did not respond to questions from Reuters about the risks of shadow banking.
Before the 2008 financial crisis, there was very little shadow banking in China. In the aftermath of that shock, Chinese authorities launched a massive effort to stimulate the economy, mostly through a huge increase in lending. This led to a boom in property and infrastructure spending that continues today. Demand for credit increased sharply, especially from local and municipal government-owned companies.