‘Shadow’ banking; sounds spooky right? Wasn’t it at the heart of the Global Financial Crisis? All those off balance sheet products that came home to roost at the same time and then, BOOM!
All true, but the term ‘shadow banking’ when applied to China is really a misnomer as the vast majority of off-balance-sheet deals that make up the shadow banking complex are well documented and approved by the highest authority (the CBRC).
The correct term in China’s case for this business really should be the non-bank lending business and that’s the term I’m going to use from now on.
According to a Moody’s survey in 2013 at the end of 2012 China’s non-bank lending balance sheet was equivalent to 39% of GDP. That compares to around 25% for the ratio of total world wide non-bank lending versus the global financial system.
The lion’s share of deals are of so-called ‘entrusted loans’. This is typically a loan from Company A to Company B where a bank stands in the middle and takes a fee for administration but bears none of the counter-party risk. These loans, according to the Moody’s report, account for just over 30% of the non-bank lending market in China.
The paper I’m highlighting this week is a must read for anyone who believes the non-bank lending market in China is somehow a Wild-West of fat SOE’s dis-intermediating dozy bankers spraying surplus shareholders’ funds around for the benefit of affiliates or friends.
In the paper Franklin Allen, Yiming Qian, Guoqian Tu and Frank Yu from the University of Pennsylvania, the University of Iowa, Chongqing University and The China Europe International Business School respectively have examined the reports of publicly traded Chinese companies from 2004 to 2013 to create the first detailed study (that I’ve seen anyway) on the reality of the non-bank lending market in China.
The broad conclusions they come to are that loans are priced fairly and in line with risk. Moreover this activity increases when aggregate credit is tight and so it performs a useful social function providing liquidity when the banks can’t or won’t.
The key point for me though was to be reminded that this activity is wholly mis-classified when referred to as ‘off balance sheet’. It’s precisely because this activity is manifest in firms (but not banks) balance sheets that data can be collected.
Nothing spooky or ‘shadowy’ about this activity at all then; in fact, quite the reverse.
Happy Sunday
[You can access the paper in full at the following link Entrusted Loans: A Close Look]