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Opinion
Coming Out of the Shadows
By Lan Xinzhen  ·  2019-03-11  ·   Source: NO. 11 MARCH 14, 2019

Over two years ago, some foreign observers sounded a warning that potential risks and crises might arise from the rampant growth of China's shadow banking system—the phenomenon of non-banking financial intermediaries providing services similar to traditional commercial banks but outside normal banking regulations. Despite the risks, the system has been popular due to some individuals and organizations facing difficulties in accessing regular banking services, especially loans.

However, these concerns have been allayed with the shadow banking sector put under effective supervision and management following the overhaul of the banking regulatory department.

According to statistics from U.S. business and financial services company Moody's, the volume of China's shadow banking shrank to 60 trillion yuan ($8.8 trillion) in 2018, around 67 percent of the GDP, which was a marked decline from 96 trillion yuan ($13.9 trillion) in 2016, or 1.29 times the GDP that year.

Effective regulation of shadow banking activities has reduced their financial risks and ensured the security and stability of the financial system. This should ease international concerns that Chinese banks could cause possible risks to the global financial industry.

China's shadow banking industry is thought to have expanded after the 2008 global financial crisis, when the Central Government pumped 4 trillion yuan ($597.5 billion) into the market to stimulate the economy and increase liquidity. Also, commercial banks issued loans through trust companies in order to circumvent the central bank's restrictions on the amount of loans they could issue, and launched various financial products to raise capital. All these factors boosted the shadow banking industry.

Notably, private lenders account for only a small proportion of the shadow banking system. Most shadow banking activities are initiated, carried out and provided with liquidity by commercial banks.

Due to the lack of oversight, a great amount of the capital raised through the shadow banking system flowed into the overheated real estate market, which increased financial risks and sparked concerns both at home and abroad.

The potential risks caught the attention of the Central Committee of the Communist Party of China (CPC). The report presented at the 19th CPC National Congress in 2017 paid heed to the issue while listing the three tough battles China must fight, with preventing and defusing financial risks coming first. The other two are reducing poverty and battling pollution.

Financial supervision and management departments joined forces with law enforcement departments to clamp down on lending by those without licenses and those who had licenses but flouted laws and regulations.

The China Banking and Insurance Regulatory Commission, the country's top regulator for the banking and insurance industry, revised and formulated nearly 100 regulations, laws and guidelines to close the loopholes in the shadow banking industry over the past two years. It also conducted on-the-spot inspections of over 100,000 banks and insurance companies, punishing nearly 6,000 errant entities.

More than 7,000 people were punished, over 300 forbidden from working in the banking and insurance industry for a certain period or permanently, and over 450 banned from serving as board directors or senior managers at banking and insurance institutions for a certain period or permanently. The strict oversight of the industry will continue as risks remain.

The 2008 global financial crisis was sparked by non-banking financial institutions represented by U.S. mortgage giants Federal National Mortgage Association, also known as Fannie Mae, and the Federal Home Loan Mortgage Corporation, or Freddie Mac, expanding rapidly under financial liberalization policies, which boosted the U.S. shadow banking sector. The sector provided financing for subordinated debts through asset securitization, which caused risks to accumulate within the U.S. financial system, leading to the global financial crisis.

At present, while China's shadow banking industry has been regulated, the risks haven't dissolved completely and the results need to be consolidated. Preventing and defusing financial risks is not only a tough battle but also a prolonged one.

Moreover, it will be more difficult to overhaul the industry in future as the focus shifts from curbing illegal lending to tracking the capital. On one hand, if such capital lies idle, it will impact the economy negatively. On the other hand, relaxed supervision will lead to the industry sliding back into chaos. Therefore, regulators need to guide the use of shadow banking capital to inject impetus into economic growth.

Copyedited by Sudeshna Sarkar

Comments to lanxinzhen@bjreview.com

 

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