Until a few short years ago the very concept of shadow banking in China seemed like a contradiction in terms. After all, commercial banks overwhelmingly dominated the financial sector and provided nearly all of the lending. The position of giants such as Industrial and Commercial Bank of China was seen as impregnable.
But that's all changed overnight in banking terms. In the last five years China has witnessed the emergence of so-called trust companies — non-banks — that now account for around half of all lending to the economy at large. Last May JP Morgan Chase & Co estimated shadow bank lending market at $6 trillion.
And for China's main financial-sector regulator, the China Banking Regulatory Commission, this is a step too far. The watchdog wants to know more about what's going on, a lot more in fact.
A seven-page draft known as "Document no. 107" that first came to light late last year marks China's first attempt at classifying —and taming — shadow banks. The document identifies three main categories: unlicensed firms such as internet-based finance companies that lie completely outside the regulatory Pale, semi- regulated lenders, and licensed firms such as money-market funds that are at best subject to light supervision.
China's shadow banks are different from the western variety. Although the sector is much smaller than in USA or Europe, it has been growing at what the watchdog clearly believes is an alarming rate — that is, by up to 50 per cent a year. What disturbs the government most is that the major clients of shadow banks are local authorities, some of them in a state of financial disarray.
It's not just the shadow banks though who are under orders to come clean — or at least cleaner. In December 2013 the major commercial banks were told to improve transparency, specifically to publish data on 12 key indicators including the state of their off balance-sheet assets. As the CBRC explains, the move will align the banks with the Basel III rules.
The watchdog is also tightening oversight of the main banks in terms of interbank loans, which it suspects have been a conduit for avoiding credit controls. Under the current draft regulations, interbank exposure must not exceed 50 per cent of a bank's deposit base. As the official news agency Xinhua put it, the banking regulator believes the deeper scrutiny could "boost the internal management of the banks and improve transparency".
The crackdown on both the main and shadow sectors reflects the government's concern about a run-up in bad debts by the dominant institutions. Even though officially they account for less than one per cent of total lending, the regulator suspects this may not represent the true picture. For instance, some observers think the banks are understating their levels of bad debt or concealing at-risk loans by rolling them over.
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