Why China's banking system is under such stress

Ambrose Evans-Pritchard:

Bad debts in the Chinese banking system are ten times higher than officially admitted, and rescue costs could reach a third of GDP within two years if the authorities let the crisis fester, Fitch Ratings has warned.

The agency said the rate of non-performing loans (NPLs) has reached between 15pc and 21pc and is rising fast as the country delays serious reform, relying instead on a fresh burst of credit to put off the day of reckoning.

It would cost up to $2.1 trillion to clean up this toxic legacy even if the state acted today, and much of this would inevitably land in the lap of the government.

“There are already signs of stress that point to NPLs being much higher than official estimates (1.8pc), most obviously the increased frequency with which the banks are writing off or offloading loans,” it said.

The banks have been shuffling losses off their balance sheets through wealth management vehicles or by classifying them as interbank credit, seemingly with the collusion of the regulators. Loans are past 90 days overdue are not always deemed bad debts.

“The longer debt grows, the greater the risk of asset quality and liquidity shocks to the banking system,” said Fitch. Capital shortfalls are currently 11pc to 20pc of GDP, but this threatens to hit 33pc in a worst case scenario by the end of 2018.

“Defaults in China could lead to mutual credit guarantees in the background pulling other firms into distress. A large increase in real defaults risks triggering a chain of bankruptcies that magnifies the potential for financial instability,” it said.

“Mid-tier banks have the weakest buffers, and are the most vulnerable to funding stress,” said the report, by Jonathan Cornish and Grace Wu.
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There is much more.

This has the potential to lead to a collapse of the Chinese banking system and with the rest of the world pretty well maxed out, it would be hard for them to find anyone to bail them out.  There is continued speculation in the housing market despite the number of ghost cities in China.

At the current growth of debt to GDP China may reach a point where its ambitious military spending will also have to be reined in.  Credit is currently 243 percent of GDP and is forecast to grow at roughly 10 percent a year for the next two years at the current rate.  The levitation can last only so long before like their space station gravity takes hold and a crash becomes inevitable.

Do they even have feasibility studies to support some of these big projects?