Solid Progress in Curbing Financial Risks
‘Current financial risks have generally retreated, and initial success has been achieved in amending financial dysfunction,” read a report on China’s financial stability issued by the People’s Bank of China (PBC), the central bank, at the end of 2018.
Despite mounting growth pressures and external headwinds, China has made notable progress in defusing financial risks compared to a year ago, when international organizations warned the country of emerging “tensions” in the financial sector.
“The system’s increasing complexity has sown financial stability risks,” the International Monetary Fund (IMF) said in a report at the end of 2017, which identified three major risks in China’s financial system.
Instead of ignoring or denying the issues, the PBC had a timely and rather modest response, recognizing the assessments as “professional and valuable” while pledging to draw on the recommendations to improve weaknesses.
In 2018, China lived up to its promise, with tough regulations rolled out to tackle key risks including high corporate leverage and shadow banking.
The hardline stance is set to continue. At the Central Economic Work Conference in December 2018, which charted a course for the Chinese economy in 2019, senior leaders agreed to maintain the resolute crackdown on major risks.
The first tension the IMF pointed out was high corporate debt and household indebtedness brought about by credit expansion in recent years.
In 2018, China made steady progress in what it calls “structural deleveraging,” using tailored measures to bring down leverage in different sectors.
The corporate sector, often considered the most troubled in terms of debt levels, has seen a decrease in the leverage ratio thanks to the debt-to-equity swap program, which allows companies to exchange their debt for stocks.
By the end of November 2018, the debtasset ratio of major industrial firms dropped 0.4 percentage point from a year earlier to 56.8 percent, according to the latest data.
While China’s leverage ratio has stabilized, there remain structural issues that need to be optimized, said Zeng Gang, Deputy Director of the Beijing-based National Institution for Finance and Development.
For many policymakers, winning the fight against financial risks is a balancing art. “We have to take into consideration market tolerance as businesses in the financial sector are deeply intertwined. We have to defuse the ‘bomb’ while making sure the train of the Chinese economy runs smoothly on the right track,” said Guo Shuqing, Chairman of the China Banking and Insurance Regulatory Commission.
The second risk on the IMF’S watchlist was the fast growth of lending by non-banking financial institutions, which is less regulated and often referred to as “shadow banking.”
In 2018, China unveiled what many industry insiders called the strictest asset management rules in history, which unified regulatory standards for asset management products and addressed issues such as regulatory arbitrage.
The yield on wealth management products has been trending down, partly because some financial institutions stopped guaranteeing principal or interest to comply with the new rules.
In November 2018, the amount of wealth management products that guaranteed principal payment saw a decline for the ninth straight month, data from mobile financing platform Rong360.com showed.
More illegal fundraising was also put under scrutiny. A massive cleanup of Internet finance businesses resulted in the departure of more than 5,000 incompetent firms in the sector by the end of May 2018, according to relevant data.
“As China tightens oversight of online lending businesses, many online wealth management platforms have lost their appeal,” said Dong Ximiao, a researcher with the Chongyang Institute for Financial Studies, Renmin University of China.
The new asset management rules also addressed the IMF’S third concern, widespread implicit guarantees, which may lead to excessive risk-taking by retail investors and institutions in anticipation of a government bailout.
Authorities were determined to change this trend. In the report on financial stability, the PBC vowed to tighten supervision on some “too-bigto-fail” institutions, with risk assessment and stress tests to be conducted on systemically important financial institutions.
Despite fluctuations in the capital market, authorities have been unswerving in pushing reform forward, vowing less intervention on trading while amending rules to let poor-performing firms delist from the A-share market.
“The regulators have focused more on improving the mechanisms of the capital market, which will improve its ecosystem and give the market a bigger role,” said Pan Xiangdong, an economist with New Times Securities.
In its report, the PBC said that to defuse the risks accumulated over the years in China’s financial system, there would be some costs.
“As China strengthens financial supervision, some periodic risk events will be exposed, bringing short-term pains to the financial market or even the economy as a whole. It is expected, and should be accepted,” said the report.