By James Corbett
The Chinese credit crisis has entered its next phase. A few weeks ago we wrote about the Bank of China's ill-fated attempts to reign in the shadow banking system that had developed around its own lax credit policy of recent years. For those who didn't catch it, that ended with system outages at several Chinese banks that left the public concerned about a credit crisis.
Now the other shoe has dropped. Chinese consumers worried about the bank outages several weeks ago have been flooding into “wealth management products.” These investment products are offering returns of around 5%, often in very short period of a few weeks, significantly above government-capped savings deposits which are running at 3% annually. Also, the perception is that WMPs are safer than keeping money in a savings account, since they are typically offered by government-backed banks. Technically, however, the WMPs are part of China's burgeoning shadow banking system and are often invested in derivatives and other risky products.
This perception of safety and promise of high returns may seem too good to be true. And that's because it is. They are a Ponzi scheme according to no less an authority than China's Securities Regulatory Commission Chair, Xiao Gang. They are offered in promotional specials as a way of luring in deposits to help banks meet monthly capital requirements when needed. As old WMPs mature, they are paid off by selling new ones, or taking loans from other banks on the interbank market. That in itself is a recipe for disaster. But wait, it gets worse! Since the bank outages in June, millions more households have flocked into the WMP market, meaning there's going to be a glut of maturing investments very soon.
The Chinese Banking Regulation Committee has responded by starting a new electronic register for all WMPs that have been sold to individual investors since 2011. Banks have until the end of the month to register the products sold to individuals, with a promise to expand the registry to include institutional investors at some unspecified point down the road.
While the attempt to oversee the market might give the sense that the government is bringing stability to the market, all this highlights is the increasingly precarious position of the Chinese banking sector. The cracks are appearing all over the place. The question is how long until one of them goes bust and sets off a chain reaction in the interbank lending market? Only time will tell, but there are currently over 500 billion Yuan (US$80.8 billion) worth of outstanding WMPs out there, accounting for as much as 16 percent of all deposits.