China’s overdue loans could be a global problem

20th September 2012

The PMI data is ostensibly good news: "A survey by HSBC showing China's manufacturing activity rose marginally in September has raised hopes that a slowing Chinese economy is finally stabilizing". But the data has few fooled. Economists say a turnaround may still be a long way off and markets stubbornly refused to be buoyed by the news.

More worrying is a report on Zerohedge, which plucks the following data from a PWC report: "China's top 10 listed banks' overdue loans reach 489B Yuan at the end of the first half; China overdue loans rise from 112.8bn Yuan at the end of 2011. The increase in China's overdue loans shows that non-performing loans may increase." This suggests a three-fold rise in overdue loans since the end of last year. PWC has generated its data from the reports at the individual banks.

There have been fears on rising bad debt for some time and it has been an important metric for investors assessing banks' health. This piece in the Wall Street Journal in August highlighted the problem:

"Signs of rising bad debt…have pushed the shares of the four state-controlled banks down an average 19% from their highs this year in February. That compares with a drop of 7.3% in Hong Kong's Hang Seng index since it reached its 2012 high at the end of February.

The Chinese banks have been prone to fudging bad debt data, which has not helped the problem.

Again, a piece in the Wall Street Journal shows how banks have ‘hidden' non-performing loans on their books: "Claims on other financial institutions often represent credit extended to China's shadow banking system, which use the funds to make loans to property developers and other high risk borrowers. The implication is that banks are rolling their nonperforming loans into claims on China's shadow financial system, with no change in the underlying asset."

James Weir, an Asia investment specialist at Guinness Asset Managment, says that some rise in bad debt was inevitable. In the post-crisis ‘stimulus' phase, the banks were told to lend and tended to lend to ‘friends and family' rather than necessarily the most profitable – or safe – enterprises. This rise in overdue loans may simply be the legacy of that initial stimulus. The monetary tightening that took place last year was designed to address this misallocation of capital, but will only do so with a lag effect.  

It raises concerns about any future stimulus. The Chinese Premier Hu Jintao said at the recent Asia Pacific Economic Co-operation meeting that further stimulus may be on the cards if there was no pick-up in economic growth; Could future stimulus packages leave Chinese banks vulnerable?

The potential weakness of China's banks could have significant repercussions outside China. On Mindful Money, we talked earlier this week about how Chinese banks were targeting European banks for acquisition: "One of China's biggest banks is planning to make the country's biggest foreign bank acquisition to date and has set its sights on potential targets in Europe. China Construction Bank, the second-ranked Chinese bank by assets after Industrial and Commercial Bank of China, could spend as much as $15bn on a deal, according to Wang Hongzhang, the group's chairman."

Also, Chinese banks have been mopping up some of the lending that it now not being done by Western banks. As this Financial Times piece points out, Chinese banks' share of US syndicated lending has risen to 6.1% of the total market this year, according to Dealogic. This is up from 5.1% last year and the total value of syndicated loans from the Chinese banks has now hit $51bn.

The last thing that the US economy needs is a further contraction in loan availability as US banks have already substantially reined in lending.

It may be that Zerohedge is fretting unnecessarily and the overdue loans will not substantially convert into non-performing loans. However, the PWC report suggests a pattern. While it is tempting to see this as an isolated problem for Chinese policymakers alone, the repercussions could be more widespread.

 

More on Mindful Money

China Construction Bank targets European banks

Financialist: US-China trade tensions grow

Consequences of the Japan-China trade war

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