Dis­as­ters In­fer­nos Scorch the Tar Sands

Fires tore through Fort Mcmur­ray in the heart of Canada’s oil coun­try, in Al­berta prov­ince. Although down­town was mostly spared, 2,400 build­ings in the outer neigh­bor­hoods were lost. The blaze shut down 1 mil­lion bar­rels of daily oil pro­duc­tion. De­pend­ing

Bloomberg Businessweek (North America) - - Global Economics -

on May 9. The au­thor of the com­men­tary was iden­ti­fied as “an au­thor­i­ta­tive per­son,” usu­ally code for the top lead­er­ship. “Any mis­han­dling will lead to sys­temic fi­nan­cial risks, neg­a­tive eco­nomic growth, or even have households’ sav­ings evap­o­rate. That’s deadly.”

Lib­eral lend­ing has been a part of the econ­omy for years. The con­cerns arise now be­cause the ex­pan­sion of debt is ap­proach­ing crit­i­cal lev­els. In the years since China un­leashed bil­lions in loans to weather the global fi­nan­cial cri­sis of 2008, over­all debt has grown from 164 per­cent of gross do­mes­tic prod­uct to 247 per­cent last year, Bloomberg In­tel­li­gence es­ti­mates. House­hold and cen­tral govern­ment debt are still man­age­able at 41 per­cent and 22 per­cent of the econ­omy, re­spec­tively, but cor­po­rate debt, at 165 per­cent, is much higher than in most de­vel­op­ing coun­tries.

At the same time, Pres­i­dent Xi Jin­ping wants to de­liver eco­nomic growth of 6.5 per­cent. To hit that tar­get, the govern­ment will need to lend to com­pa­nies to keep them go­ing. Many are al­ready in rough shape. With the steel, coal, ce­ment, and real es­tate in­dus­tries suf­fer­ing over­ca­pac­ity and falling prof­itabil­ity, cor­po­rate de­faults are likely to rise, say S&P Global Rat­ings and Fitch Rat­ings. Non­per­form­ing loans could al­ready be as high as 19 per­cent of loans out­stand­ing and could rise to one-quar­ter, far higher than the of­fi­cial es­ti­mate of 1.67 per­cent, warns Fran­cis Che­ung, a strate­gist at bro­ker­age CLSA. Po­ten­tial losses could amount to as much as 9.1 tril­lion yuan ($1.4 tril­lion), or 13.5 per­cent of GDP, Che­ung es­ti­mates.

Dur­ing the cri­sis at the turn of the cen­tury, China created four as­set man­age­ment com­pa­nies to take on bad debt from the four gi­ant state banks. There now are 22 lo­cal AMCS, says Chen Long, China economist at re­search con­sul­tants Gavekal Drago­nomics in Bei­jing. The new AMCS of­ten take on debt that banks have agreed to buy back later, a dodge Chen calls “ware­hous­ing.” That helps banks clean up their bal­ance sheets in the short term and low­ers the cap­i­tal they must set aside to cover the cost of soured loans. Although the China Bank­ing Reg­u­la­tory Com­mis­sion has tried to crack down on ware­hous­ing, “in­sti­tu­tions al­ways find new ways to get around the rules,” Chen says.

Of­fi­cials have an­nounced that banks bur­dened with bad cor­po­rate debt will be en­cour­aged to swap the loans for eq­uity, be­com­ing share­hold­ers of the trou­bled bor­row­ers. Reg­u­la­tors plan an ini­tial debt swap val­ued at 1 tril­lion yuan, re­ported the English-lan­guage web­site of fi­nan­cial pub­li­ca­tion Caixin, cit­ing an un­named ex­ec­u­tive at China Devel­op­ment Bank. Par­tic­i­pants in­clude Bank of China, In­dus­trial and Com­mer­cial Bank of China, and China Min­sheng Bank­ing.

Bad loans will also be se­cu­ri­tized and sold, likely to other banks. It’s un­clear how steep the dis­count on the se­cu­ri­tized debt will be. Debt swaps and se­cu­ri­ti­za­tions “are not so­lu­tions per se and could back­fire. They could al­low weak/non­vi­able firms to keep go­ing,” warned the In­ter­na­tional Mon­e­tary Fund in an April re­port.

China’s lead­ers seem in­tent on avoid­ing sig­nif­i­cant job losses be­fore a cru­cial Com­mu­nist Party Con­gress next year. They know un­em­ploy­ment would rise if weak com­pa­nies couldn’t bor­row. So cor­po­rate debt will prob­a­bly keep on ris­ing and could be 10 per­cent­age points higher by yearend, pre­dicts Gavekal’s Chen.

China’s low rate of ex­ter­nal bor­row­ing, cap­i­tal con­trols, and state own­er­ship of the banks make it less vul­ner­a­ble to a sud­den loss of credit, says Louis Kuijs, head of Asia Eco­nom­ics at Ox­ford Eco­nom­ics in Hong Kong. “Peo­ple are still happy to put their money in the banks,” he says. “And liq­uid­ity dry­ing up is what cre­ates a fi­nan­cial cri­sis.”

In­stead, China risks falling into a pat­tern of chronic low growth, much as Ja­pan did start­ing in 1990, as ever more credit is re­quired to fuel a slow­ing econ­omy. In China last year, 10 per­cent of new credit went to­ward ser­vic­ing ex­ist­ing debt, UBS Se­cu­ri­ties es­ti­mates. “They may never delever­age—ja­pan never did,” Chen says. “But then you are stuck long term with slower growth. You end up with a lot of zom­bie com­pa­nies hold­ing back the econ­omy.” �Dex­ter Roberts

Bor­row­ing as a per­cent­age of GDP Cor­po­rate* Cen­tral govern­ment

Bank Grow­ing, but still well be­low the U.S. Mainly bonds is­sued by banks, such as China Devel­op­ment Bank, that fund state projects Shadow bank­ing

For­eign bor­row­ing “You are stuck long term with slower growth. You end up with a lot of zom­bie com­pa­nies hold­ing back the econ­omy.” ——Chen Long, Gavekal Drago­nomics Be­cause China bor­rows very lit­tle abroad, a credit shock is un­likely The bot­tom line Losses from bad loans might equal as much as 13.5 per­cent of Chi­nese GDP, yet pol­i­cy­mak­ers prop up loss-mak­ing com­pa­nies.

Newspapers in English

Newspapers from Canada

© PressReader. All rights reserved.