1. Is this problem peculiar to China?
No. Getting credit to small private companies is a tough nut to crack anywhere. For rational business reasons, major banks prioritize lending to bigger, more-established companies because they are lower risk. They also have the collateral that small firms often lack. Sixty-five million micro, small and medium-size enterprises in developing countries have an unmet financing need of $5.2 trillion a year, according to a 2018 report by the Institute of International Finance and the SME Finance Forum. In China, the shortfall was put at about $1.9 trillion.
2. Are there China-specific issues?
• State-owned banks find it hard to make decisions based on lending criteria alone. That’s because many state enterprises are run by people with political clout. Why lend to the little guy when you may upset a big guy who could damage your career prospects?
• The de-risking drive that began in 2016 is squeezing the shadow banking, or unregulated lending, that smaller, private businesses had come to rely on. Shadow financing shrank for a ninth straight month in November to 23.28 trillion yuan ($3.4 trillion), the lowest since October 2016.
• Another headwind is the state of the regional banks, many of which are under severe strain. After the clampdown on shadow banking, regulators sent shock waves through the market by seizing Baoshang Bank Co. in May — the first bank takeover in more than 20 years, denting confidence in the whole sector. They have bailed out others and stepped in to halt bank runs amid rumors of more failures.
• And there are economic factors. China’s growth is slowing, making banks even more cautious. And tariffs from the trade war with the U.S. hit smaller, export-dependent companies harder than big state enterprises.
3. Was China wrong to curb financial risks?
No. Public and private debt had surged to 276% of GDP at the end of 2018, from 162% in 2008, a spending binge triggered by China’s efforts to offset the impact of the global financial crisis. That debt pile is now a big problem with the potential to worsen. (Xi has called financial risk a national security issue.) Chinese onshore company bond defaults reached more than 150 in 2019 — well past the 2018 record of 120. Missed payments totaled more than 130 billion yuan ($18.7 billion), compared with 2018’s high of 122 billion yuan, which itself was more than quadruple the level in 2017. Private-sector firms accounted for more than 80% of defaults in 2019, data compiled by Bloomberg show. While still a fraction of the $13 trillion market, the more defaults occur, the more cautious lenders become, the bigger the potential drag on economic activity.
4. So banks are getting mixed signals?
Yes. On one hand they are being told to lend more to small private firms and lower interest charges. On the other they are ordered to curb bad loans and strengthen their capital positions to safeguard stability in financial markets. That leaves them between a rock and a hard place.
The country’s economic health. Despite China being nominally Communist, its private companies contribute 60% of gross domestic product, 90% of new jobs, 80% of employment and 70% of technological innovation, according to Vice Premier Liu He, Xi’s top economic adviser. They also deliver 50% of tax revenue. The campaign to channel more funds to nimbler private firms instead of wasteful state enterprises reflects an urgent desire to increase efficiency, productivity and thus the levels of growth needed to, among other things, keep financing the debt.
6. How are policy makers responding?
Xi has vowed “unwavering” support. In January the State Council, the apex of China’s financial regulatory system, said more measures to make financing easier and cheaper were in the pipeline, although it didn’t provide details. Past action included a substantial reduction in value-added tax, tax exemptions and lower social security premiums. The People’s Bank of China in 2018 doubled its re-lending quota to banks, allowing them to supply financial institutions with more money to lend, and introduced a credit enhancement tool to help private-sector companies issue bonds. Perhaps the most notable action has been the deluge of high-level proclamations. Along with Xi, Premier Li Keqiang and central bank Governor Yi Gang have emphasized the urgency of helping private companies, as have banking and insurance chief Guo Shuqing and Vice Premier Liu. Their message to bankers: Do the politically correct thing or risk being seen as uncooperative.
There’s hope. A Standard Chartered Plc gauge that measures credit conditions for small and medium enterprises was on the rise as 2020 began. Still, China has been trying to persuade banks to lend more to small- and medium-sized companies for decades. Fixing things means overcoming the structure of China’s banking system, according to Andrew Polk, co-founder of research firm Trivium China in Beijing, who says it will take years “if they can do it at all.”
–With assistance from Natalie Lung and Yinan Zhao.
To contact Bloomberg News staff for this story: Kevin Hamlin in Beijing at [email protected]
To contact the editors responsible for this story: Jeffrey Black at [email protected], Paul Geitner, Kevin Hamlin