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China’s economy has been resilient through the coronavirus pandemic owing to strict societal as well as capital controls by the government. The Evergrande loan default was probably the biggest shock for the economy, causing ripples in the China financial services sector. As per data from the People’s Bank of China, property loans accounted for nearly 30% of the total outstanding loans of Chinese financial institutions at the end of September 2020.
Chinese banks quickly started reducing their loans exposure to the real estate sector after the Evergrande debacle and the unfolding of the high debt issue in the property sector. At least 17 out of 32 leading lenders in China decreased the outstanding loans to the property sector in 2021. China Everbright Bank saw its real estate loans fall 12% last year while regional lender China Bohai Bank logged a 32% drop in lending to the sector.
While the real estate sector is a way from recovery, Chinese lenders are now realigning their business models to diversify their loan portfolios. The Chinese government is implementing new legislation to support the financial services sector.
Is China financial services sector stressed?
China’s real estate slowdown has been likened to the fall of Lehman Brothers in the US, which snowballed into a worldwide financial crisis. However, China has much higher control over its financial institutions and the government can access deposits as well as track the movement of funds.
“We have not seen credit default swap spreads move too much for US or Chinese banks, nor has there been a lot of currency volatility in the renminbi, most likely indicating a very different set of circumstances and a commensurately different outcome,” Franklin Templeton said in a blog post late last year.
S&P Global in a report said Chinese banks will face slowing loan growth, slimming margins and rising credit risk in 2022. China’s attempt to ease its monetary and fiscal policy will also keep the banks’ interest margins at multi-year lows.
“We expect China to use more policy-easing measures — such as proactive fiscal policy, prudent monetary policy as well as targeted industrial policies — to prevent a downward spiral and reverse a sharp growth slowdown,” China Renaissance Securities had said in January.
The outstanding loan balance of Chinese financial institutions rose 11.37% in November 2021, the lowest rate since March 2006. The troubles seen in the property industry have caused the banking sector to see higher non-performing loans, degrading the asset quality of the segment. Outstanding non-performing loans in the commercial banking sector rose 13.5 bn yuan to 2.8 tn yuan ($440.66 bn) in the three months until December 2021, as per the China Banking and Insurance Regulatory Commission (CBIRC).
“Chinese banks’ aggregate nonperforming loan ratio for the property sector surged to 2% in the first half of 2021 from 1.2% in 2019, according to an estimate by investment bank Natixis in January. Meanwhile, the overall NPL ratio in China’s banking sector has declined as of end-2021 due to faster loan write-offs,” S&P said in a report.
Policy measures to contain the meltdown
The real estate shock to the banking infrastructure was quite evident, and in early April the Chinese government unveiled a draft financial stability law to prevent systemic risks in the future. The proposed law aims to bring together several “scattered” set of rules that are currently used to handle financial risks in the country.
Lu Lei, deputy head of China’s forex regulator SAFE, said that the new law will establish “institutional arrangements” to maintain financial stability. More specifically, the law will create a financial stability guarantee fund and establish the legal groundwork for an all-encompassing cross-departmental policy to avoid financial risks. This basically translates to higher oversight between the functions of the various departments as well as the banks.
Beijing-based research firm Plenum’s co-founder Chen Long told the South China Morning Post that the draft law had already been put into practice and now the country was legalising it as law instead of a series of documents.
The financial stability law is part of a slew of measures taken by the Chinese government in response to the economic downturn. China’s financial markets have been under pressure for the past few months. The economy has taken a hit due to the pandemic and the regulatory crackdown on property and technology companies. The recent Russia-Ukraine war too has caused an exodus of foreign money in the country over fears of further geopolitical tensions.
The PBOC recently announced the much-anticipated cut to its reserve requirement ratio (RRR) to shore up its slowing economy. This is the third RRR cut in the current easing cycle and will release 530 bn yuan ($83.2 bn) worth of long-term liquidity into the interbank system on April 25.
The resilience of China financial services
China has been able to tide over the pandemic thanks to its digital banking infrastructure and resilient financial institutions. Payment platforms such as Alipay, Tencent, WeChat Pay, digital insurers such as PingAn and digital banks such as WeBank, have seen substantial gains in users and volume during the pandemic, writes KPMG.
The Chinese government has been encouraging a shift to digital in recent years, and it has been working on digital payments and financial infrastructure. Since most Chinese banks are state-controlled, the government was able to easily manage liquidity and credit concerns, with support provided wherever necessary. KPMG in its report said that the government and the Central Bank were pushing ahead with the digitization of financial services and infrastructure.
One of the key steps for financial inclusion was the launch of the ‘digital yuan’, which could potentially allow the government to track each unit of the currency spent and offer equitable public services. The digital yuan also allows the central bank to eliminate middlemen and carry out transactions faster and cheaper. This would in turn translate into lower costs and interest rates for end consumers.
