China Shadow Banking Returns as Growth Rebound Adds Risks

China’s broadest measure of new credit almost doubled in August from the previous month in a sign leaders are committed to meeting economic goals even at the cost of adding financial risks.

Aggregate financing was 1.57 trillion yuan ($257 billion), the People’s Bank of China said in Beijing yesterday, topping the 950 billion yuan median estimate of 10 analysts surveyed by Bloomberg News. New yuan loans from banks accounted for about 45 percent of the total, down from July’s 87 percent, as non-traditional credit played a bigger role.

The first pickup in credit growth after an unprecedented four straight declines, the fastest gain in industrial output in 17 months and above-forecast exports signal better odds that Premier Li Keqiang will achieve his 7.5 percent expansion target this year. The data also mark a resurgence in shadow banking that poses risks for the financial system after a record credit boom in the first quarter.

“If credit growth picks up persistently from here, China’s current growth recovery may well last a bit longer and go a bit further,” said Yao Wei, China economist at Societe Generale in Hong Kong. “However, that only adds to the downside risk afterwards, as the leverage of Chinese corporates and local governments keeps rising from the already alarmingly high level.”

M2 money supply growth accelerated to 14.7 percent, the fastest in three months.

Growth Estimates

Deutsche Bank AG raised its estimate of third-quarter economic expansion to 7.9 percent from 7.7 percent, the second boost in a month, while UBS AG increased its projection to 7.7 percent from 7.5 percent.

China’s lending spree in recent years has evoked comparisons to debt surges that tipped Asian nations into crisis in the late 1990s and preceded Japan’s lost decades. China’s ratio of credit to gross domestic product rose to 187 percent in 2012 from 105 percent in 2000, compared with Japan’s increase to 176 percent in 1990 from 127 percent in 1980, JPMorgan Chase & Co. said in a July report.

Shadow lending, which allows banks to bypass controls and capital requirements, is flourishing in China because an estimated 97 percent of the nation’s 42 million small businesses can’t get bank loans, according to Citic Securities Co. The industry may be valued at 36 trillion yuan, or 69 percent of gross domestic product, JPMorgan estimated in May.

Cash Squeeze

A government-engineered cash squeeze in June sent money-market interest rates to record highs and helped curb shadow banking, reducing longer-term dangers while adding to forces slowing economic growth. Now it appears that the crunch in liquidity and credit is over, Wang Tao, chief China economist at UBS in Hong Kong, said yesterday.

Bankers’ acceptance bills and entrusted loans, two of the categories within aggregate financing, are “highly correlated with shadow banking activities,” said Hu Yifan, chief economist at Haitong International Securities Group in Hong Kong.

Yesterday’s figures showed entrusted loans of 293.8 billion yuan in August, a record in data going back to 2002, after 192.7 billion yuan in July. Bankers’ acceptance bills were 304.5 billion yuan in August, compared to a 178.3 billion yuan decline in July.

“The sudden pickup is a bad signal we should be alert to and pay special attention to,” Hu said.

Tight Liquidity

The increase in bankers’ acceptance bills, which represent promises of future payments, shows lenders are helping the economy at a time of tight liquidity, said Dariusz Kowalczyk, senior economist and strategist at Credit Agricole CIB in Hong Kong.

“When Beijing orders stimulus, funds will be found and growth will recover,” Kowalczyk said.

The government says debt risks are manageable. While the cabinet in July ordered a nationwide audit of government borrowing, Finance Minister Lou Jiwei last week called the scale of local government debt controllable and said the risk of default was “not great.”

Vice Finance Minister Zhu Guangyao said last week at a Group of 20 nations summit that while China needs to strengthen supervision of shadow banking, officials are aware that smaller businesses need access to finance.

“The tricky thing is, ultimately the PBOC is able to control the size of social financing and off-balance-sheet lending at the money-supply end, which will then result in overall tight liquidity,” said Ding Shuang, senior China economist at Citigroup Inc. in Hong Kong. “Yet it needs to strike a balance and not be too tight in monetary policy.”

Bond Issuance

Aggregate financing rose from a 21-month low of 808.8 billion yuan in July. New yuan loans in August were 711.3 billion yuan, compared with the 730 billion yuan median analyst estimate.

Reorient Financial Markets Ltd., a China government-backed investment bank, said in a note yesterday that the aggregate-financing number “should not be interpreted as a sign of a resurgent shadow banking industry” because it represented a recovery in bond issuance and rising business-to-business lending, while trust loans were little changed from July.

Other data this week also illustrate Li’s challenge in shifting away from an economic model dependent on debt and overseas demand toward domestic consumption.

Industrial output grew 10.4 percent from a year earlier in August, while retail sales for the month and fixed-asset investment for the January-August period also topped analysts’ estimates, data from the statistics bureau showed yesterday. Customs figures released Sept. 8 showed exports rose more than estimated last month.

Recovery Trend

Premier Li said yesterday at a meeting with corporate representatives in Dalian, China, that August indicators have shown a trend of recovery. Monetary easing, adjusting macroeconomic policies and increasing the deficit may have an impact in the short run yet won’t necessarily be beneficial in future, he said, according to the official Xinhua News Agency.

“The stronger data over the last couple of months have settled nerves about a possible hard landing,” and credit growth should sustain investment spending, said Mark Williams, a former U.K. Treasury adviser on China who is now a London-based economist at Capital Economics Ltd. “The omens for the short term are good, but at the cost of making the economy’s structural problems worse.”

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