China’s Credit Excess Is Unlike Anything The World Has Ever Seen

Tyler Durden's picture

By Andrew Brown, a partner for macro and strategy at ShoreVest Capital Partners, as posted originally in the South China Morning Post.

From a global macroeconomic perspective, we encourage readers to consider that the world is experiencing an extended, rolling process of deflating its credit excesses. It is now simply China’s turn.

For context, Japan started deflating their credit bubble in the early 1990s, and has now experienced more than 20 years of deflation and very little growth since. The US began its process in 2008, and after eight years has only recently been showing signs of sustainable recovery. The euro zone entered this process in 2011 and is still struggling six years onward. We believe China is now entering the early stages of this process.

Having said that, we believe that Chinese authorities have a viable plan for deflating their credit excess in an orderly fashion. Please stay posted as we will review this multi-pronged, market-based approach in our next column.

For now, let’s turn our attention to the size of the credit excess that China created and why we estimate it to be the largest in the world.

A credit excess is created by the speed and magnitude of credit that is created – if too much is created in too short a time period, excesses inevitably occur and non-performing loans (NPLs) emerge.

To illustrate the credit excess that has been created in China, let’s review several key indicators, including the: 1) flow of new credit; 2) stock of outstanding credit; 3) credit deviation ratio (i.e., excess credit); 4) incremental capital output ratio (efficiency of credit allocation).

The chart below shows the amount of credit created as a percentage of GDP during the five years prior to major downturns globally.

The US created 58 per cent of GDP between 2002-07, and the global financial crisis followed.

Japan created credit equivalent to the entire size of its economy between 1985-90 and subsequently experienced more than 20 years of deflation (admittedly reflecting the lack of restructuring).

Thailand created a significant real estate bubble between 1992-97 and ended up with about 45 per cent NPL ratios.

Spain created credit equivalent to 116 per cent of GDP between 2002-07 and still is trying to address a 20 per cent unemployment rate.

China created 139 per cent of GDP in new credit between the first quarter of 2009 and the third quarter of 2014 (when GDP growth peaked), far greater than what was created in other major credit bubbles globally.

This unprecedented flow of new credit was predominantly in infrastructure and corporate credit. The result is that China’s corporate debt-to-GDP is too high and must be addressed, which authorities are now doing.

Another important measure to assess the amount of credit in the economy which is “excessive” is the credit-to-GDP gap, as reported by the Bank of International Settlements. This ratio measures the difference between the current credit-to-GDP ratio in an economy against its long-term trend of what is necessary to optimally support long-term GDP growth. It is akin to measuring the amount of credit that is productively deployed into an economy.

This metric is used by the Basel III framework in determining countercyclical capital buffers for a country’s banking system when credit creation becomes too fast (i.e., high credit growth requires higher capital ratios for banks).

A credit-to-GDP gap above 10 per cent of GDP is considered risky and requires the maximum additional 2.5 per cent of tier one capital as a countercyclical buffer under Basel III. A credit-to-GDP gap above 10 per cent of GDP is increasingly problematic as any new credit extended above that level produces progressively less GDP and is a source of future NPLs.

Out of the 43 countries currently measured by the BIS, China has the largest credit-to-GDP gap (by orders of magnitude) at 30 per cent of GDP. This is equivalent to US$3.1 trillion in excess credit.

Finally, to show that the pace of credit creation will necessarily slow, thereby exposing misallocated credit and driving the emergence of new NPL formation, we turn to the deterioration in China’s incremental capital output ratio.

This ratio is the measure of the number of units of input required to produce one unit of GDP.

For the 15 years prior to the credit impulse in 2009-14, China’s incremental capital output ratio has been consistently between two and four. Meaning that two to four yuan in fixed asset investment created one yuan in GDP.

But as a result of the credit-driven economic growth model, and the excessive credit that has been created (and the subsequent excess capacity in the industrial economy), China’s investment efficiency has deteriorated to the point that its incremental capital output ratio is now over 13.

Said another way, every 1 yuan in new fixed asset investment is now creating only 7 fen in GDP. Meaning that new credit creation is having an increasingly lower transmission into GDP growth. Simply put, credit growth must necessarily slow and be redirected towards more productive activities.

Comment viewing options

Select your preferred way to display the comments and click "Save settings" to activate your changes.
chubbyjjfong's picture

I stopped reading the article after this sentence.

"The US began its process in 2008, and after eight years has only recently been showing signs of sustainable recovery." 


I had to scratch my head at that point.

silverer's picture

The national debt is the depth of the hole a country digs before it falls in. Last I checked, it was still getting dug deeper by the second for the US and western nations. So your point is well taken.

Darktarra's picture

Now you see why the Chinese are playing ball with Trump/America.  The [REAL] China is so frail, that one strong huff and puff and their system comes crashing down.  


Why are the Chinese forming troops on the North Korean border?   Why are they getting their bomber force into readiness?  

NK has become a liability that the Chinese just can't risk.  It was this way under O-Kenyan, your Community Organizing Prez of 2008 - 2017!  But O-Kenyan didn't want to rack up a body count ... well at least not in NK he didn't!  

North Korea, I know your intelligence agencies monitor foreign message boards and I know you are reading this: 

I want your pathetic backwards nation reduced to glass.  I don't care if the Zionists or CFR or IMF is behind your 'glassing'  I want you GONE!  


So Trump, launch the boomers!   Get the stand-offf missile in the air.  Get THAAD ready to take out NK Scuds and IRBMs ... take them out and I am not talking to dinner or the movies! 


Quantum Bunk's picture



It makes me fucking sick for morons like this to compare Chinese credit growth to unsterilized Fed QE

Darktarra's picture

Its all based on fiat!  None of the world's currency are reallly worth shit and I doubt in 25 years or less, any non-gold/sivler back currency will be around.   I think the Fed and the Chinese central banks are hoping for a miricle. 

RibbitFreedom's picture

I stopped at exactly the same sentence...

meditate_vigorously's picture

For at least 10,000 years, it never even occurred to the northern European races that there should be such a thing as countries.

Is it any wonder we are so easily conquered from a group that would tell us that race does not matter?

baby_tone's picture

I'm making over $7k a month working part time. I kept hearing other people tell me how much money they can make online so I decided to look into it. Well, it was all true and has totally changed my life. This is what I do...

Lockesmith's picture

Countries do not exist, they are a human fiction. Does the land change for magenta to cyan at the French German border?

Race, on the other hand, is a quantifiable factor in the DNA

besnook's picture

it's only digits in a binary world. it's nothing a blue screen can't fix.

malek's picture

"< insert your favorite diversion here>'s Credit Excess Is Unlike Anything The World Has Ever Seen"

Yeah right, after you remove the US from consideration that is.

indaknow's picture

Chinas credit excess is unlike anything the world has ever seen. 

Really? Has anyone ever looked over here? We are 50 years behind and 20 trillion over our limit.  But sure...they're delinquent. 

Pot calling the kettle. ..

Brazen Heist's picture


Go to jail bad bwoy

VWAndy's picture

 Well somebody got stiffed. Im guessin it was not the cat running the printer.

DEMIZEN's picture

look at the real growth and eroei and think about it.  what is gdp anyway, not even the russian sociopath that created the measure believed in it.

Yen Cross's picture

 Those PBoC charts,,, look Eerily similar to the Amerika "MACRO" charts.

VWAndy's picture

 Yall thought the Chinese dont know how the fiat game is played?   hint  they invented it

Centerist's picture

Aside from our ungodly national debt, we have student loan, subprime auto loan and renewed mortgage bubbles all ready to pop.  No recovery has happened since 2008, and none is bound to happen any time soon.  Credit is the only source of any period of "growth" that we've experienced since the late '80s.

On the main point of the article, though, China's government debt isn't nearly as bad as ours, but their private sector debt is what is truly going to cause them problems.  I remember when everyone thought that the Japanese would own the world, but the meteoric growth of their economy was based on credit expansion, which ultimately imploded as the author described.  The same thing will happen to China.

The author might have been smoking crack when he spoke of a US recovery, but he was spot-on when he discussed the private sector debt time bomb in China.


alfredhorg's picture

The author was not smoking crack.  The US is doing great.  In the US, even janitors can become millionaires:

And trash dump workers are geniuses:

ds's picture

The Chinese Leaders know it. They are constrained by the vested interests within their ranks. They have oversold to the populace, where only a sliver see the problem. They are maintaining employment at all costs (including propping of zombies) to prevent social unrest (the threat to the Party and Xi leadership). 

A long slow landing is what they can dream but global agnostic markets are not there to obey. Rich pickings for a China Unwind. This is not Japan, it has far worse trusted institutions and property rights. Predators have already circled. You need not believe in a financial crisis or melt down, but will you be the muppet to be in now with pathetic risk/return. 

the_narrator's picture

The credit cycle works differently in China.  Anyone notice how there's been talk of an economic crash in China for 30 years and it never comes?  The banks have had tons of bad debt forever and the government regularly bails them out with electronically printed money that they don't have to borrow.  It doesn't work that way in the west where governments have to go into deep debt to bailout banks and the taxpayer gets stuck with the bill.  In China, the taxpayer doesn't have to suffer for the bubble.  Sure the banks could get corrupt with the moral hazard of a guaranteed bailout, but the Chinese government makes sure to regularly purge and imprison the bad apples to keep them somewhat honest.

DEMIZEN's picture

its because the real growth is much higher than the one calculated. the money is thrown at their NIRP elite, bad apples get caps in the backheads to make sure that PRC finacial system is not hijacked by zirper mafia and look at their real growth...

the_narrator's picture

You have a genius for neologisms:  "NIRP Elite"  "Zirper Mafia"   I love these!  Wish there was urban dictionary for Zerohedge economics.

DEMIZEN's picture

thanks but cant take credits for these:


there should  be a short legend of abbreviations i agree

JerseyJoe's picture


Servicing NPLs - No problemblamo...

$100M NPL?   Here's a new $150M loan to service the $100M NPL.  We keep the $50M to service your new $150M loan and btw your bankrupt company now owes us $150M which is being magically serviced right up until you need a new $200M loan when the $50M runs out on the new loan.  

 Magic.  What credit problem???  Just build the card house higher.

orangegeek's picture

And the chi-coms have converted to USD to bid the north American real estate.


Laundered money you say???  No problem.  A real estate agent is there to help.

Houses Depreciate's picture

Borrowed money is borrowed money irrespective of source. 

The housing collapse is locked and loaded.

moorewasthebestbond's picture

Smoke 'em if you got 'em, for tomorrow we go to debtors prison.

Stinkytofu's picture

no private land ownership in china.

my understanding is a limited amount of land

has been contracted out at 70-year increments

since the founding of new china in 1949.


what happens when all those contracts terminate

in 2019?

RichardParker's picture

Between 2008 and 2013, China’s credit market increased from $9 trillion to an incredible $23 trillion.  To give this number some perspective, China’s GDP is a little over $7 trillion. So China today has a credit market well north of 300% of its GDP.

Andrew Brown should have read ZH back in 2014;

x marx the spot's picture

"we believe that Chinese authorities have a viable plan for deflating their credit excess in an orderly fashion"

This is a statement you can get behind only if the electrodes are still attached to your nipples.

Equalizer's picture

Everyone claims they have a plan, let me guess, the government is going to takeover the private debt and the private debt will takeover the public debt,'s all chair shuffling on the Titanic.

Let it Go's picture

This is very important as those in power continue to see the answer as banks loaning more and for us to borrow more and spend more.  Negative interest rates move us down the path towards a "liquidity trap," a term that can be baffling and difficult to understand.The Negative Interest Rate Policy (NIRP) punish savers and encourages them to spend money, it also forces banks to lend money rather than hold it and bolster their reserves. 

In doing so it can also increase the velocity of money. However, at some point we reach a place where too much money or currency makes it a worthless commodity. The article below explores the possibility we are on the verge of a "Minsky Moment", when the debt pyramid collapses under its own weight.

Last of the Middle Class's picture

Umm, Joe college degree owing $100,000 in college debt, obamacare premiums, with no chance of paying it off in less than 20 years or so, with the US holding 145 trillion in unfunded liabilities. You may want to take a look at those numbers for the US. Just sayiin.

Yen Cross's picture

 That's what happens when you build fake sand castles to the sky...

truthalwayswinsout's picture

The Japanese are inverterate liars and their economic miracle was propelled mostly by liars. They have suffered a 30-year depression since its collaspse and only survive because they inflict unfair trade on us. If we were to immediately stop the unfair trade, they would descend into 4th world permanent poverty status.

The Chinese are not only inveterate liars, they are gamblers and they do it on a scale that is just part of their everyday culture. THERE ARE NO HONEST BUSINESS PEOPLE IN CHINA.

To put it into something you can easily understand, they are Bernie Madoff times 1 million. 

When the music stops there will be no chairs for some to continue on, it will be total devastation.

shortonoil's picture


"Everyone has a plan until they get punched in the face"; Muhammad Ali

PocoPete's picture

The quote was by Mike Tyson and it was mouth (not face).

Herdee's picture

Simply put, economic activity measured by stock market increases is what will destroy our planet. Sustainability for everything and everyone is key.