China’s failure to address excesses in its credit system means that the country faces the growing risks of a full-blown banking crisis by 2019, according to early warning indicators released by the Bank for International Settlements (BIS).
Switzerland-based BIS, regarded as the world’s leading financial watchdog, reports in its latest quarterly review that China’s credit-to-gross domestic product (GDP) gap – a key gauge of stress in the banking sector – rose to 30.1 in Q1 of 2016. This is the highest to date and three times above the credit-to-GDP gap of 10 that the watchdog regards as danger level. It also compares with a figure of 25.4 for China in Q1 of 2015.
The gap is calculated by assessing borrowing in relation to the size of the economy and comparing the resulting ratio with the long-term trend. When the two show signs of diverging, it indicates a potential banking crisis is developing.
The BIS adds that the figure for China is well above that for any other major country tracked by the institution and significantly higher than the scores during East Asia’s speculative boom in 1997 that turned into a crisis or in the US subprime bubble before Lehman Brothers’ demise in 2008. Although Canada has the second-highest credit-to-GDP gap, its figure of 12.1 is modest by comparison.
China’s total credit stood at 255% of GDP at the end of 2015, a rise of 107 percentage points over eight years and unusually high. Corporate debt stands at 171% of GDP. Outstanding loans, which stand at US$28 trillion are equal to the commercial banking systems of the US and Japan combined.
More positively, the latest BIS quarterly review noted markets have proved more resilient than many anticipated in the three months since the UK’s vote to leave the European Union (EU).
“The speed of the recovery took many by surprise, given the political and economic uncertainty that the vote had triggered,” commented Claudio Borio, head of the monetary and economic department at the BIS.
However, he added that global financial markets remain vulnerable despite recent gains. “There has been a distinctly mixed feel to the recent rally – more stick than carrot, more push than pull, more frustration than joy.
“This explains the nagging question of whether market prices fully reflect the risks ahead. Doubts about valuations seem to have taken hold in recent days. Only time will tell.”
BIS’s commentary added: “The apparent dissonance between record low bond yields, and sharply higher stock prices with subdued volatility cast a pall over such valuations. Banks’ depressed equity prices and budding signs of tension in bank funding markets added another sobering note.”
When it comes to the relationship between Europe and Britain – uniformity isn’t a word that currently springs to mind. And that’s not just a reference to Brexit. Whilst the Europe and Britain do find themselves in the midst of a political break-up – their monetary policies are also showing signs of divergence.
Europe’s introduction of the General Data Protection Regulation (GDPR) next May will have implications for businesses around the world and US corporates should start getting ready if they haven’t already done so.
The recent NotPetya cyberattack underlined the need for organisations to address their exposure and how to mitigate the risk.
As anticipated, US organisations exited prime money market funds en masse following last year’s SEC reforms. AFP’s latest Liquidity Survey indicates what it will take to encourage them back.