Credit markets wary of China crunch
Interbank lending rates in China's money market have soared alarmingly to record highs, prompting fears the banking sector's liquidity problems could spiral into a full-blown credit crunch.
The main driver for tightening credit has been the reluctance of the central bank, the People's Bank of China, to pump cash into the market. This has been seen as a tactic to combat another potentially out-of-control problem - the economy's so-called shadow-banking system and the prevalence of dodgy wealth management products, fuelled by punters wanting a better return than the lower-than-inflation interest rates on bank deposits.
Credit ratings agency Fitch this week warned what many had already suspected, that wealth products worth $US2 trillion of lending were in reality a "hidden second balance sheet" for banks, allowing them to run rings around efforts by regulators trying to rein in excessively loose lending.
The Chinese government stance can also be seen as a reflection of its determination to wean itself off its addiction to cheap credit, a byproduct of the post-financial crisis stimulus-fuelled growth binge.
"What people underestimate is the degree to which the People's Bank of China views the credit growth that's taken place as unsustainable," Patrick Chovanec, a former professor at Tsinghua University, told BusinessDay.
There have been strong signals that Beijing is satisfied to let its once sacred GDP growth rate slide further to fix its structural problems.
On Wednesday the central government released a statement saying China's financial markets must "serve real economy development in a better way, promote domestic demand in a more targeted way and prevent financial risks in a more concrete way".
The state-run China Securities Journal ran a front-page commentary emphasising China's monetary policy was at a critical juncture. So while many are nervously comparing their Bloomberg charts to similar interbank lending rate spikes before Lehman Brothers collapsed, the assumption most analysts are hanging on to is that China's central bank remains in control. With an inherent advantage as a command economy, it also has plenty of levers to pull to alleviate the credit squeeze, so the theory goes. But as Professor Chovanec points out, "all the liquidity injections in the world won't save bad investments from being bad".
Beijing is waging war against its shadow banking problem, even if it means momentarily freezing its banking system. To flinch too early, and cave in to the banks' craving for cash, would mean it loses its $US2 trillion game of chicken.
Frequently Asked Questions about this Article…
The article says interbank lending rates in China have spiked to record highs, raising fears that banking-sector liquidity problems could escalate into a broader credit crunch. The main driver is the People's Bank of China’s reluctance to pump cash into markets as a way to tackle risks from the shadow-banking system and risky wealth management products.
Rising interbank lending rates signal tighter credit conditions, which can increase market volatility and trigger sharemarket sell‑offs. The article notes local markets reacted alongside other concerns (like US Fed comments and weak Chinese factory data), and credit squeeze worries can weigh on companies with China exposure and investor sentiment more broadly.
The article describes China’s shadow‑banking as a web of off‑balance‑sheet lending—largely risky wealth management products—that people bought seeking higher returns than low bank deposit rates. Fitch warned these products amount to about US$2 trillion of lending and act as a “hidden second balance sheet” for banks, raising systemic risk investors should monitor.
According to the article, the PBoC is holding back to curb the excesses of shadow banking and risky wealth products and to wean the economy off cheap, stimulus‑fuelled credit. Officials view recent credit growth as unsustainable and are willing to tolerate slower GDP growth to fix structural problems.
Fitch warned that wealth management products—estimated at around US$2 trillion of lending—function as a hidden second balance sheet for banks. That structure can undermine regulators’ efforts to restrain loose lending and increase the risk of contagion if liquidity tightens.
The article notes most analysts believe China’s central bank has the policy levers and advantages of a command economy to alleviate a squeeze. However, experts caution that liquidity injections can’t fix fundamentally bad investments, so policy tools may not erase the underlying problems.
The article suggests reason for concern but not panic: Beijing is deliberately addressing shadow‑banking risks even if it means short‑term strain. Investors should watch developments closely, because a policy‑driven tightening could temporarily freeze parts of the banking system and affect markets.
Based on the article, investors should track China’s interbank lending rates (for spikes in market stress), PBoC liquidity actions or public statements, official commentary from state media like the China Securities Journal, and broader indicators such as GDP growth and factory data that signal economic momentum and policy priorities.
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