Home' Trinidad and Tobago Guardian : July 4th 2013 Contents BG28 | THE ECONOMIST
BUSINESS GUARDIAN www.guardian.co.tt JULY 2013 • WEEK ONE
Since assuming power in March, China s new rulers
have prided themselves on their no-frills approach.
President Xi Jinping inveighs against pomp and pro-
tocol. Prime Minister Li Keqiang, who oversees the
economy, favours masochistic metaphors. In March
he said that the state should remove its hand from
many parts of the economy, even if doing so felt like
cutting its own wrists.
This doggedness, along with a new economic team,
has raised hopes for reform, which will require grim
resolve. Interest-rate liberalization, for example, faces
resistance from state-owned lenders which do not
want rivals to poach depositors by offering better
Liberalizing product markets faces even stiffer
opposition. Li says that he wants to help private
entrepreneurs compete with state-owned enterprises.
That upsets SOE bosses, who enjoy the comforts of
incumbency, and also leftist party members who still
enjoy the comforts of socialist ideology.
The tough talk was therefore welcomed, but many
still wondered if it was only talk. Were China s new
leaders really prepared to change China s growth
model, stopping the same share of resources from
flowing through the same banking channels to the
same state-owned purposes? Were they prepared to
inflict the necessary pain?
Last week the skeptics got an unexpected answer:
Yes, the leadership is willing to inflict pain, even
when it is unnecessary.
The pain in question arose in China s fledgling
interbank markets, where banks borrow from each
other to meet temporary shortfalls in funding. Banks
often find themselves running low on cash at this
time of year, thanks to corporate-tax payments,
holiday withdrawals and their need to keep cash on
their balance sheets to pass midyear regulatory inspec-
tions. However, they typically can count on China s
central bank, the People s Bank of China, to inject
more money into the market if liquidity gets too
Last week it stunned everyone by refusing to do
so. Interest rates spiked. One benchmark, the Shanghai
Interbank Offered Rate or SHIBOR, peaked on June
20 at 13.4 per cent for overnight loans. Another rate
hit 25 per cent during trading.
How much of this stress was necessary? How
much was intentional?
The central bank s governor, Zhou Xiaochuan, is
no doubt worried about excessive lending, having
led a big bank cleanup earlier in his career. The stock
of outstanding credit, broadly defined, has been rising
faster than GDP, suggesting that much lending is not
helping the "real" economy, as China s leaders call
it, but is financing the purchase of existing assets,
bidding up their price.
No doubt the PBOC also is frustrated by the banks
balance-sheet shenanigans. Many banks sell wealth-
management products to investors that mature imme-
diately before the end of the quarter. The repayments
are paid into the bank s deposits in time for regulatory
inspections, only to disappear into a new product
immediately afterward. Meanwhile the bank needs
to borrow the funds it repays to the products buy-
ers.Some smaller banks would not need the central
bank s money if they had not ignored lending limits
in the first place, says Mike Werner of Sanford C
Bernstein, a research firm. The central bank under-
standably is reluctant to help them.
Both Werner and Ting Lu of Merrill Lynch wonder
if the central bank also had a more specific concern.
It may be worried that bank balance sheets are mis-
matched as well as oversized. Many smaller banks,
Lu explains, have taken advantage of stable interbank
funding to borrow short-term from other banks and
lend long-term. If interbank rates remain stable, they
can simply roll over their borrowings. If not, such
mismatches are cruelly exposed.
Whatever the aim, the consequences will hurt
smaller banks disproportionately. Lacking the deposit
base enjoyed by China s big, state-owned lenders,
they rely more on borrowing from other
banks or selling WMPs to investors. Some
also are less disciplined in their lending,
helping to finance the grand ambitions of
Perhaps Li wants to consolidate financial
firepower in the big banks that do what
they are told, but that would leave local
governments in need of other revenue
"To squeeze the pimple of overleverage,
we need an overhaul of the current fiscal
system," one government researcher told
Xinhua, the official news agency.
However, such theories attribute more
cunning to the financial authorities than
they displayed last week. If some pain and
trepidation was part of the plan, the degree
of pain was probably unintentional. Trying
to calm the markets on June 25, the PBOC
attributed the extreme rates of the previous
week to "emotional factors," among other
Since even the PBOC does not target
emotion, these factors were presumably not
a part of its design.
Many central banks were set up to help
banks survive financial panics by providing
a lender of last resort. The origins of China s
central bank are different. Until 1979 it was
pretty much the only lender of any sort,
collecting the nation s funds and allocating
them as the state saw fit.
Some traces of these origins survive. The
PBOC is probably more sensitive to devi-
ations from its targets than to turbulence
in the markets. If so, this month s market
distress will have re-educated the central
bank as much as the banks it sought to
@2013 Economist Newspaper Ltd. (Distrib-
uted by the New York Times Syndicate)
China plays hands off ... too much
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