Category Archives: Banking

The Renminbi Ups Its Status

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THE INTERNATIONAL MONETARY Fund added the renminbi to its basket of Special Drawing Rights (SDR) currencies at the start of this month, thus officially marking it as a member of the elite club of global reserve currencies. It is a membership of which China has long been desirous.

The IMF had decided last November that China could join at the next scheduled SDR review, and that it would constitute 11% of the basket. That gives it the third largest share, behind the dollar and the euro but ahead of the other member currencies, the yen and sterling.

Weightings are meant to reflect the use of a currency in trade and the financial system so China may have been treated generously in this regard. It share of global payments, for example, peaked at 2.8% last year and is below 2% now.

Joining the SDR basket is, at this point at least, as much symbolic as anything, an acknowledgement of the global weight of China’s economy, and encouragement to push ahead with the financial reforms that would make the renminbi the freely usable and widely adopted currency that IMF reserve currencies are meant to be.

That, in turn, would promote more foreign interest in yuan-denominated assets, particularly bonds. Central banks and sovereign wealth funds will, however, build up their renminbi-denominated holdings only gradually.

Looking back in a decades time, though, the change may look more momentous, both if China’s financial markets become deeper and more liquid or it turns out that the renminbi was just the first of several emerging market currencies (India’ rupee is another candidate) to find a place in the SDR basket.

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Fixing China’s Corporate Debt Problem

A SUCCINCT SUMMARY of China’s debt problem is offered by the IMF’s David Lipton. He zeroed in on corporate debt in a speech to the Chinese Economists Society in Shenzhen these few days past:

Overall, total debt is equal to about 225 percent of GDP. Of that, government debt represents about 40 percent of GDP. Meanwhile, households are about 40 percent. Both are not particularly high by international standards. Corporate debt is a different matter: about 145 percent of GDP, which is very high by any measure.

By IMF calculations, state-owned enterprises account for about 55 percent of corporate debt. That is far greater than their 22 percent share of economic output. These corporates are also far less profitable than private enterprises. In a setting of slower economic growth, the combination of declining earnings and rising indebtedness is undermining the ability of companies to pay suppliers or service their debts. Banks are holding more and more nonperforming loans, or NPLs. The past year’s credit boom is just extending the problem. Already many SOEs are essentially on life support.

The Fund’s most recent Global Financial Stability Report estimated that the potential losses for Chinese banks’ corporate loan portfolios could be equal to about 7 percent of GDP. This is a conservative estimate based on certain assumptions about bad-loan recoveries and excluding potential problem exposures in the “shadow banking” sector.

This is potentially a deep fault line running through ‘rebalancing’. Corporate debt problems if left unresolved can quickly become systemic debt problems. Authorities need to move with more despatch than they have done to deal with both zombie companies and the banks carrying their zombie loans — and they can’t deal with one without dealing with the other otherwise they will still be left with insolvent companies or undercapitalised banks.

This will not be easy given the political dimensions involved. The nearest example to draw from might be the experience of South Korea’s chaebol in the aftermath of the 1997-98 Asian financial crisis when those economically dominant and politically well-connected conglomerates had to be restructured. That, though, took both government-supported and court-supervised measures to break the power of the controlling shareholders. China’s legal system might find the latter part a challenge.

Lipton also stresses the importance of reforming the governance inadequacies that created the situation in the first place:

Governance certainly must be based on a robust legal framework: the laws and regulations that establish an effective system of insolvency and enforcement that help create payment discipline. But governance also means regulatory and supervisory policies that promote the proper assessment and pricing of risk at the individual loan level. It means robust accounting, loan classification, loan loss provisioning, and disclosure rules. It means a system that avoids moral hazard.

But there is also a socio-cultural dimension; an acceptance that the transition from a state-directed to a market economy requires the transcension of special interests and connections.

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Time For A Poacher Turned Gamekeeper At The Exchanges?

LIU SHIYU, who has replaced the ill-starred Xiao Gang as China’s top securities regulator, is a former chairman of the Agricultural Bank of China. Liu is the China Securities Regulatory Commission’s eighth head, a job he will combine, like Xiao, with being the Party chief in the Commission. Six of Liu’s seven predecessors also worked in state banks.

And therein lies a clue to the innate contradiction in China’s attempts to control the animal spirits of financial markets by old-school administrative measures, which, like Xiao’s ‘circuit breakers’ can end up embarrassingly making matters not better but worse.

State bankers whose careers have been spent within the confines of a highly protected banking system where administrative guidance has long made the need for risk management a redundant skill are unlikely to have that gut feel for how markets work and what reinforces or undermines investor sentiment. Even Liu’s spell at the People’s Bank of China was mostly concerned with the bailout of the state banks in the early 2000s.

While having someone from the securities industry regulating the markets would no doubt come with its own mixed bag of connections and conflicts, it might be time for Beijing to consider appointing a poacher turned gamekeeper to oversee the exchanges.

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China’s Corporate Disappearing Acts

WHEN TOP EXECUTIVES and financiers of any stripe go awol, it rarely ends well. When it is Fosun’s Guo Guangchang, one of China’s richest and highest-profile chief executives, that drops from sight, the conclusions quickly jumped to are inevitably nefarious ones.

Trading in the shares of Guo’s fast-expanding media-to-asset-management-to-Club Med conglomerate was suspended in Hong Kong ahead of a company announcement confirming that Guo was assisting authorities with their enquiries. Beyond that, the company did not say why police in Shanghai, where the group is based, had detained its chief executive. Guo was reportedly picked up at an airport. Local media reports suggest he has been held in connection with an investigation into Ai Baojun, director of the Shanghai free trade zone and a former deputy mayor of the city.

Earlier this year, Guo was found by a Shanghai court to have had ‘inappropriate connections’ with Wang Zongnan, a businessman who had once headed a number of state-owned enterprises, most notably the Shanghai Friendship department store chain. In August, the court sentenced Wang to 18 years in jail for misusing 195 million yuan ($30.2 million) in corporate funds. (Fosun has denied any impropriety in its relationship with the Friendship group.)

Guo is not the first senior company officer in recent months to disappear for a few days before being revealed to have been either under investigation or asked to assist authorities with their investigations.

Two investment bankers at Citic Securities, China’s largest securities brokerage and which overstated its over-the-counter derivatives business by 1 trillion yuan earlier this year causing its chairman to resign, went missing earlier this month. Something similar happened to Guotai Securities’ Yim Fung last month and in September, Li Yife, head of the China unit of Man Group, dropped out of sight for a few days, too.

It is clear that the anti-corruption operation — it has continued for too long to be labelled a campaign anymore — is now reaching deep into financial services.

This has been true since at least the beginning of the year, when Mao Xiaofeng, president of China Minsheng Bank, was detained to assist with the investigation into former President Hu Jintao’s aid, Ling Jihua.

That, at least, smacked of old-fashioned factional politics. But the anti-corruption operations have intensified in the wake of the summer’s stock-market crash, which reawakened concerns in some high levels of the Party about the lack of discipline that could be exerted on markets and their participants.

However, what makes the Guo case so unsettling for business and investment is not that there are unwritten political rules to doing business in China; those exist in many countries. It is that the rules have suddenly become more unpredictable.

Update: Guo has reemerged, chairing Fosun’s annual meeting in Shanghai on Monday, and without giving any explanation for his reported absence over the past few days. Trading in the company’s shares has resumed.

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China Gets Its Reserve Currency Status

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THE INTERNATIONAL MONETARY Fund’s executive board has, as expected, approved the inclusion of the yuan in the basket of currencies that constitute its Special Drawing Rights. Thus, China joins the dollar, euro, yen and pound sterling in the elite club of reserve currencies, as Beijing has long been so desirous of doing.

The yuan’s weight in the basket will be 10.9%, slightly less than had been expected but still sufficient to rank it ahead of the yen (8.3%) and sterling (8.1%), if a ways behind the dollar (41.7%) and the euro (31%).  The dollar’s weighting will remain unchanged: the yuan’s allocation has all been taken from the three other currencies. The new status takes effect from October 1, 2016.

The decision is largely symbolic at this point in the yuan’s international usage, but marks a milestone in the currency’s internationalization — and more significantly its full convertibility. ‘Freely usable’ is an IMF criterion for a currency’s inclusion in its basket.

As we have noted before, the contingent opening of the capital account is also an important policy priority for rebalancing the economy. The IMF’s accolade will be a boost for those in China who have been promoting that, and especially now as other economic-rebalancing reforms are flagging in the face of slowing growth and political opposition.

Christine Lagarde, the IMF’s managing director, said the decision was:

a recognition of the progress that the Chinese authorities have made in the past years in reforming China’s monetary and financial systems. The continuation and deepening of these efforts will bring about a more robust international monetary and financial system, which in turn will support the growth and stability of China and the global economy.

As she could have been expected to say. However, the IMF’s announcement also included this kicker:

Authorities of all currencies represented in the SDR basket, which now includes the Chinese authorities, are expected to maintain a policy framework that facilitates operations for the IMF, its membership and other SDR users in their currencies.

i.e., no backsliding of financial reform whatever the domestic temptations.

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Yuan Marches On Towards Reserve Currency Status

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THE INTERNATIONAL MONETARY Fund’s staff have recommended that the fund includes the yuan in the basket of currencies that constitute its Special Drawing Rights. The IMF’s board is likely to endorse the staff’s view at its November 30 meeting, agreeing that the currency meets the test of being ‘freely available’, a test that it failed in 2010 when the IMF last reviewed its basket. The yuan would then become a reserve currency from September 2016.

The staff recommendation is not unexpected, but it marks another milestone in the Chinese currency’s internationalization — and more significantly its full convertibility. As we have noted before, the contingent opening of the capital account is an important policy priority for rebalancing the economy.

Recent changes to that end, but also to address specific IMF concerns, have included overhauling how the central bank sets its reference rate for the currency in foreign-exchange markets, letting foreign central banks trade China’s onshore currency products and improving the short-term yield curve through the issuance of  three-month debt.

The People’s Bank of China said in a statement that it welcomed the IMF staff’s recommendation, trotting out that making the yuan a reserve currency would be “a win-win result for China and the world” and avowing its commitment to financial reform and opening-up.

None of that makes pushing ahead with either any less urgent, or any easier.

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Lending Edging Out Of The Shadows

DOWN IN THE detail of the monthly monetary aggregates for March released earlier this week is the curious point that the M2 measure of money supply slowed its growth even as new bank lending appeared to speed up.

M2 rose 11.6% year-on-year in March, down from February’s 12.5%. New bank lending in the first quarter, at 3.61 trillion yuan ($582 billion), was up 20% year-on-year.

With our usual caveats about reading too much into one month’s figures and making apples and oranges comparisons, it does seem that a large increase in lending hasn’t translated into economic activity in the real economy. Even allowing for the slowing of the economy, it looks as if intermediary credit is being rolled into the banking system — or to put it another way, out of shadow banking and into the (hopefully) cleansing light of the formal banking sector.

Given the warning contained in the IMF’s latest World Economic Outlook published earlier in the week that shadow banking was one of the main vulnerabilities of China’s economy —a warning repeated in the Fund’s Global Financial Stability Report, which said curtailing the riskiest parts of shadow banking should be China’s overall financial stability priority — and the central bank’s long standing concerns about the systemic risk that the $3.2 trillion sector poses to financial system, that is to be welcomed.

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