Chinas Banking and Financial Markets: The Internal Research Report of the Chinese Government

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Such loans were made regardless of prevailing interest rates. In the first phase in which the state banks were fully owned and managed by the government, administrative tools were used to control bank credit advancements while the system for regulation and supervision on nonbanking financial companies was immature and loose. The LDR regulation was established in , but it was not credibly enforced until the late s. The second most important component of regulatory policy is the restriction of advancement of bank credits to certain risky industries.

Deleveraging has become a priority for the financial policies in the third phase…In March , the Report on the Work of the Government RWG made it a priority to deleverage overcapacity firms that supported the real estate … In April , the first meeting of the Central Financial Commission emphasized the importance of deleveraging zombie firms associated with local government debts.

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And the government has always given preferential credits to certain firms or industries , although the preference has shifted through the three different phases. The first phase marks an economy led by growth and reforms of state owned enterprises SOEs. The plan listed ten areas with real estate as the number one area for massive investment. As it turned out, the monetary injection was far larger than 4 trillion within the first three quarters of …The real estate industry benefited the most.

Although local governments were legally prohibited from borrowing or running budget deficits, they circumvented the budget laws in and by creating off-balance-sheet companies… to finance investment in infrastructure and other commercial projects.

The lack of coordination between monetary and regulatory policies gave non-state banks a strong incentive to avail themselves of the regulatory arbitrage to engage in shadow banking activities, especially in entrusted lending. Entrusted lending is a loan made from one nonfinancial firm to another nonfinancial firm. The concentration in recent years has further raised systemic risks to the financial system.

Part II: Macroeconomic Factors Affecting Financial Stability

The housing market and construction investment have begun to cool down. The main consequence is overstock in the real estate, overcapacity in industries supporting the real estate, and overleverage in both real and financial sectors. At the same time, the default rates of privately owned enterprises and therefore systemic risks have increased.

SOEs in upstream industries, however, have continued to receive preferential credits and remain unproductive and monopolistic …. Implicit guarantees by local governments to such zombie firms make difficult the deleveraging of corporate debts…in recent years, the share of newly issued bank loans to SOEs has increased rapidly.

For shadow banking products, systemic risks are associated with default risks to real estate companies and LGFVs. For bank loans, systemic risks are associated with default risks to the household sector if the housing market collapses. During the deleveraging processes, the tightening of regulations on the shadow banking industry has led to defaults of unprofitable privately owned enterprises, creating a trade-off between cleansing effects and systemic risks as borrowing costs for healthy privately owned enterprises have also increased. The GDP growth target still remains the foremost goal of monetary policy.

Non-bank Deposit lagged ratio of savings at non-bank financial institutions to GDP a.


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Non-bank Credit lagged ratio of loans of non-bank financial institutions to GDP a. Correlation matrix of financial development indictors and FDI. This table reports the correlation matrix of financial development indicators and FDI. Financial development indicators are in logarithm.

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It captures the convergence effect of growth within the Chinese provinces. This effect has been documented in previous research dealing with China see e.

China's opening up of financial markets

This insignificance may stem from the fact that people move easier within a country i. Hence an empirical application using local data of a country may suffer from the problem that the provincial population is quite unstable over time. We are further interested in the impact of foreign entry on the efficiency of bank institutions.

We split the sample by whether there is any foreign financial institution existing in the province right after the commercialization of the SOCBs. It turns out that until , there are 14 out 27 provinces in our sample witnessing the entry of foreign financial institutions.

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The Impact of Bank and Non-Bank Financial Institutions on Local Economic Growth in China

Bank finance and real per capita GDP growth: impact of the entry of foreign financial institutions, fixed effects estimators. Finance and real per capita GDP growth: the Baseline Model with extra controlling variables, fixed effects estimators. Road 2. Railway 2. How to reconcile these results with Allen et al. We find that only banking development leads to greater growth, in line with some of the findings of Ayyagari et al. It is clear that the Chinese financial institutions do have inefficiencies compared to their international counterparts. But compared to other domestic financial institutions, the Chinese banks have benefited greatly from financial reforms and thus changed dramatically from only granting policy loans to starting allocating capital and monitoring projects according to commercial standards.

Except for why banks may perform better as we discussed in the second section, there are some other reasons we think should not be ignored. First, banks may enjoy a better pool of borrowers. Borrowers may prefer to borrow from banks because bank loans, especially short-term loans, are less costly than other financial instruments. Among those candidates, banks typically pick up the larger firms with collateral see e. This explains why banks increased their relative exposure towards the financing of private firms, even though most financed private firms were large ones.

China's Road to Greater Financial Stability

As banks can to some extent screen good borrowers from bad and allocate the capital to profitable state-owned enterprises Cull and Xu , bank loans are still very important in supporting local industrial growth. Last, banks with many branches all around the country made it easier to share the credit records of clients and benefit from greater industry expertise than their standing alone counterparts. This paper contributes to the recent debate on the role of formal and informal finance for growth in China using some new perspectives.

In particular, we argue that non-bank financial institutions in China have characteristics of both informal and formal finance and deserve special attention. Therefore comparison of the heterogeneity between those two types of financial institutions allows gaining further insights on whether the formal or the informal financial sector leads to growth in China. Non-bank financial institutions, which have long been ignored by the finance and growth literature, are thus brought under the spot for the first time.

In addition, we are the first to link financial reforms, financial development and growth. Using a province-level panel dataset over the period —, we find that bank development, in particular bank credit, greatly contributes to province growth.

An Overview of Chinese Debt

For instance, an increase of bank loans to GDP ratio from the lowest to the highest in our sample increases future annual growth by 8. In contrast, in most specifications, the development of non-bank financial institutions is not correlated with growth. We attribute this difference to banks having benefited more from the reform process such as commercialization, entry deregulation and liberalization than non-bank financial institutions.

Banks may have been able to gradually build up a commercial culture, getting rid of the intervention from the local government, attract better quality personnel, and improve their viability during opening-up for foreign institutions. Compared to banks, non-bank financial institutions were largely underdeveloped. The different findings on the development of banks and non-bank financial institutions show that the reform-finance-growth nexus also applies within the formal financial sector in China.

Employing a province-level dataset for the period —, Li and Liu find that growth of provincial aggregate output is positively related to the growth of the loans of the largest banking institutions and self raised funds.

They attribute the positive correlation to the improvement in the efficiency of capital reallocation during the liberalization in both financial and real sectors. Using panel data covering 31 Chinese provinces for the period —, they find that aside from legal environment, awareness of property rights and political pluralism, the development of financial markets are also associated with stronger growth. Guariglia and Poncet find that only the market driven part of formal financing leads to growth. Employing the World Bank survey data covering firms, they find that despite its weaknesses, financing from the formal financial system is associated with faster firm growth, whereas fund raising from alternative channels is not.

In particular, Ayyagari et al. Rural and urban credit cooperatives belong to informal finance as Ayyagari et al. Trust and investment companies in China are close to informal banks in Ayyagari et al. First, they were set up to conduct forms of business prohibited to the formal banks in China, such as that of a financial fiduciary. Their activities on the lending side are essentially the same as a bank.

This has led to uncertainty for both regulators and trust and investment companies, and accounts to a large extent for the high level of non-compliance Kumar et al. Financial companies in China normally belong to large enterprises. In this sense, financial companies in China are close to rotating savings and credit associations in Ayyagari et al.

Theoretical efforts at modeling growth and financial development include Greenwood and Jovanovic , Boyd and Smith , King and Levine b , and Acemoglu and Zillibotti , to mention just a few.

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