On the heels of optimistic reports this morning that G20 is looking to Peking to drive global growth, we remain sceptical about China’s ability to remain the last leg standing of the global economic growth stool. The fact that China reported a record June increase in exports, overseas sales up 43.9%, only adds to our agita.
As an aside, didn’t Treasury Secretary Geithner, after his recent visit to China, tell us that China’s policy makers were making progress on rebalancing their export driven economy and focusing more on domestic consumption? If this number is to be believed, I think he better go back to his notes.
Beyond the failure of policy makers to bilaterally deal with Sino/American trade imbalances, why do we remain sceptics on Peking policy maker’s ability to pilot a soft landing for their economy? Because of the huge invisible Chinese Dragon in the room….rising bank non performing loan angst.
Remember SIV’s? the Structured Investment Vehicles US banks used to hide risky off balance sheet debt that caused them a world of hurt and helped to catalyze the global financial crisis when they collapsed in 2008? Well China has them too via their local government investment vehicles (LGIV)…over 8000 of them and they have racked up over 7.34 trillion yuan in questionable loans (22% of China’s GDP). To fund infrastructure projects, municipalities used these ‘window companies” and borrowed indirectly from the banks (municipalities are not allowed to borrow directly from banks) which represented the bulk of last years’ record 9.6 trillion yuan stimulus.
Many of the schemes now face bankruptcy because the majority of the infrastructure projects they funded, like toll roads, simply represent bad investments and poor economics because the revenues they generate do not cover debt servicing…some China experts report that municipal governments will have over 24trillion yuan of debts in 2012 and only 5 trillion yuan in revenues. They also forecast that municipalities could experience 2.3 trillion worth of bad loans next year and that number will escalate if the economy hard lands.
Enter the China Banking Regulatory Commission (CBRC). It is a widely reported that policy makers have taken steps to cool off the property market and last month the CBRC announced an edict to lenders to refuse more credit to LGIV’s. With many of the infrastructure projects they funded only half finished and funding cut off, the prospect of municipalities servicing their debt loads becomes more tenuous and the risk of rising bank NPL’s grows alarmingly. Further complicating the picture is the fact that the municipal governments do not have access to Peking’s cash reserves. Their only source of capital to pay back debt is real estate which they must sell. With the central government stifling growth in the sector, the idea of raising cash this way is remote.
Perhaps there is a good reason why the locally traded Shanghai A share market is still approximately 60% below its all time high set back in mid 2007. China’s retail investors have a better boots on the ground perspective about what’s really going on in their domestic economy and according to their equity market performance, they are worried…sorry Mr. Geithner.
When in the not to distant future the loans to the LGIV’s begin to fail it is obvious that the Chinese government will have to step in and assume the bad assets to protect their coveted banks…which gives rise to our next question…How do you say TARP (Troubled Asset Relief Program) in Chinese?…but that’s a story for another day as sadly recent financial crisis history appears to be repeating itself in the Middle Kingdom.
This is a guest post by Peter Stock from Stock Investment Management Inc.
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