China’s clever bureaucrats can no more guarantee the health of the country’s financial system than they can see through walls. It is time to bust the myth of the “omniscient regulator”.
Consider the duel between the People’s Bank of China and the China Banking Regulatory Commission. The former looks after monetary policy and financial stability. The latter monitors individual banks. Both are headed by smart technocrats, but relations are strained. An inter-agency council on stability has only met once since August, according to the Financial Times.
All the while, China’s financial sector runs amok. Non-bank “shadow” credit has hit 19.6 trillion yuan ($3.2 trillion), Deutsche Bank analysts estimate, 81 percent more than two years ago. Domestic bond issuers are defaulting for the first time in living memory. Real estate developers, which have soaked up masses of credit and homebuyers’ savings, are showing cracks.
Regulators must balance the bad and the good. Banks need to generate fees; innovation is good for growth. But they are also fighting problems they didn’t create. One driver of financial excess is China’s forced low deposit rate, which has driven savers into alternative investments like wealth products and property. The other is poor, politically driven governance of banks. Both are really decided not by regulators, but by China’s ruling party.
Reforms that should have been simple have dragged. Take deposit insurance, which the authorities have been working on for over a decade but still has not been implemented. A CBRC plan to make banks hold more capital against interbank assets has been diluted.
This doesn’t mean the country is careening towards a financial crisis, or that watchdogs don’t have teeth. The PBOC has allowed rates in the interbank market to rise, making it harder for banks to fund shadow loans. The CBRC has limited how many wealth management products with credit-like features banks can issue.
Nor does it mean China doesn’t have some tools to fight a crisis. Liabilities are largely domestic; money printing is a last resort. Talk of a “Lehman moment” is wide of the mark. But misguided faith is equally unhelpful for investors. Regulators may be smart, but superheroes they are not.