China Will Adjust Liquidity
The statement was issued through the official news agency of the People’s Bank of China, the Xinhua News Agency today. The statement went on to mention that “prudent” monetary policy would be implemented and would continue to be used, but fine-tuning would be used where and when appropriate in a bid to calm down fears that the Chinese banking system is drying up and going into meltdown. But will this be enough to alleviate the fears that have grown stronger over the past week? In particular in the light of the fact that two major Chinese banks no longer have enough liquidity deposits and have suspended their credit lines.
On Tuesday the People’s Bank of China agreed to inject money to stop the shortage that was occurring and that was already a change of attitude. Monday saw the Shanghai Composite post its biggest drop in 4 years of 5.3%. Tuesday was almost as bad with a further drop of 6%, only managed to pick that back up when the PBOC issued the statement that liquidity would be provided in the late afternoon. The Shanghai Composite rallied by 1.5% (+29.19 points to 1, 979.21) today so perhaps it has taken affect.
The People’s Bank of China is certainly playing it cool. They are very wary about injecting cash into the economy as they want to see a restriction on credit and they want the shadow banks to disappear, thus enticing the Chinese to put their money into bone fide (or banks that are controllable by the state) banks. Shadow banks include trust and insurance companies as well as pawnbrokers and informal lenders. By refusing to inject money to boost liquidity deposits, the People’s Bank of China had hoped that it would cut uncontrolled lending via the shadow banks. However, major banks are currently strapped for cash and now the statement has been issued that the PBOC will indeed aid faltering banks. This will not have the desired effect, therefore of reducing uncontrolled loans.
Shadow banks are able to raise capital from two sources, both from traditional banks and also from individuals that wish to obtain a greater yield than is being currently offered by those traditional banks. Those banks have lost out to enterprising possibilities on offer by the shadow-banking sector.
According to analysts, shadow banking is the fastest sector to grow in the financial area right now. In 2010 for a 2-year period shadow banks ended up doubling their outstanding loans and that came to a whacking 36 trillion Yuan ($5.8 trillion). In GDP terms, that represents about 69% of China’s current GDP.
Naturally, the shadow banks have little control from the state and so there business deals tend to be riskier and also they sometimes take over projects that would normally be dealt with by the traditional banking sector. That’s taking work away from the traditional banks, reducing even further their liquidity. But, if the state has little control over them, then that means when things do go really downhill, then there may be greater debt that will be popping up all over the place, further fuelling a meltdown that is already in progress.
If the People’s Bank of China has issued a statement today that they will continue to be prudent, but that they will use all kinds of tools to fine tune the Chinese economy, then all well and good. It just remains to be seen what that actually means. Prudence is a good thing, but what are the tools that are going to be used. Come on PBOC, tell us more! Otherwise if nothing is done very soon, the People’s Bank of China might actually end up taking down the sign hanging outside head office and replace it with the spheres suspended from a bar.