China looks set to give a big boost to its nascent muni-bond market this year. The Finance Ministry is to quintuple the quota for local government bond issuance to 250 billion yuan ($40 billion) this year, Caixin, a Beijing-based financial newspaper, reports.
In addition, more provinces will reportedly be added to the list of those able to issue bonds directly. Since 1994, the ministry has done that on behalf of local governments but started an experiment in direct issuance in October last year with Shanghai, Shenzhen, Guangdong and Zhejiang. That privilege will be extended to six more provinces and municipalities. The ministry is expected to maintain the close control over the bond issuance by the larger group that it has exercised over the trial quartet, including having a big say over what the funds raised can be used for.
Expanding the muni-bond market is both part of the broader reforms of the financial system and local government finances. The latter are teetering under the burden of 10.7 trillion yuan of debt, at least 3 trillion yuan of which falls due by the end of this year. Much of the debt piled up as a result of the stimulus spending in the wake of the 2008 global financial crisis. Much of it is infrastructure loans, for things like toll roads to nowhere, that are weighing heavily on the creditworthiness of China’s banks.
Earlier this month the China Banking Regulatory Commission ordered banks to clean up their balance sheets with regard to local government lending. It first told them to do that in June last year, but progress clearly hasn’t been rapid enough, or, as a result of the cooling of both the economy and the property market, problem loans are mounting. Good and bad loans alike were probably rolled over when banks tackled the 2 trillion yuan of local government loans that fell due last year. Another red flag raised by China’s audit office: irregularities it has found with 530 billion yuan worth of the lending. Taken together, an estimated 2 trillion-3 trillion yuan of local government lending has soured, which would be sufficient to raise the banks’ non-performing loan ratios to 5% from their current average of 1.1%.
The new quota of 250 billion yuan for bond issuance won’t wipe away the problem but every little bit helps–and places like Greece serve as a reminder that bond issuance is not an infallible inoculation against government profligacy. Yet while the immediate priority is to deflate China’s local-government debt bubble before it can go damagingly pop, an expanded muni-bond market also pushes provincial and municipal governments in three other desirable directions: less reliance of land sales to raise revenue, less need for the off-balance sheet financing via captive investment vehicles that local authorities have resorted to get round restrictions on official borrowings, and more transparency generally about their finances.
This is an edited version of a post first published by China Bystander.
Filed under Banking, China
The ‘Tobin tax’ — the EU’s proposed tax on financial transactions named for the American economist who advocated taxing currency trades in the 1970s — looks increasingly likely to be stillborn. It will be politically hard enough within the EU to get all member nations to agree to it, regardless of its populist support in France and Germany. The UK has already set its face against it, unless it is implemented globally, which is even more improbable than it being accepted in Europe. The US, Singapore and China won’t readily throw away a windfall gain in competitiveness for their financial centres viz-a-viz London. And London knows it. A classic Catch-22. The lobbyists won’t even have to work that hard to scupper the proposal.
The details of the tax that will never be are as follows: The EU wants to introduce it in 2014, at a rate of 0.1% on the exchange of bonds and shares and 0.01% on derivative contract transactions. It would apply when at least one party to the transaction is located in a EU member state. We can only imagine that there would be a boom in transaction tourism to offshore havens.
Another reason the tax will be still born: though the EU Commission reckons that the tax could raise 57 billion euros ($77 billion) a year for EU governments’ coffers (the EU would set a base rate that national governments could top up), it also estimates that it could cut Europe’s long-term growth by more than 1.7% of GDP. That loss of growth would be the price for eliminating what the Commission reckons would be 90% of the derivatives transactions in Europe. Yet in today’s global markets, the business might disappear but not the risk. That would be a hard sell even for cash-strapped euro-governments.
Officials attending the IMF-World Bank annual meetings in Washington are tantalizing the markets. While they kicked any action to deal with the euro-zone crisis down the road to the EU council in Brussels in late October and/or the G20 summit in Cannes in November, they are letting the idea float that a course of action is finally in the making. This would provide for private holders of Greek debt to take a 50% haircut for, an increase in the size and flexibility of the 440 billion-euro ($600 billion) European Financial Stability Facility (EFSF) and a recapitalization of European banks most exposed to sovereign debt. If this plan for what is in effect a partial Greek default comes to fruition, it will need at least that much time to overcome some significant legal and political hurdles, notably, on the latter, the role the ECB will play in strengthening the EFSF, and some grisly horse trading with the banks and other private holders of Greece’s debt. The biggest risk to the euro-area — and to the global economy — remains a disorderly sovereign default or an unexpected shock triggering bank runs in the meantime.
The new bank lending binge continues. Five hundred billion yuan’s worth of new loans were extended in the first week of the month. That just about matched the 481 million yuan of new loans made in December, when banks were under the cosh to keep the year’s lending within touching distance of the government’s target of 7.5 trillion yuan. New loans for 2010 came out at 7.95 trillion yuan (down from 2009′s stimulus-fueled 9.6 trillion yuan). As happened last year, plenty of new lending was just pushed out into the first month of this year.
New lending tends anyway to be heaviest early in the year. The first quarter typically accounts for a third of a year’s lending. Only 42% of the new loans in the first week of January were extended by the big four state-owned banks, indicating the weakening power of centrally set quotas to control monetary policy. The central bank is increasingly being thrown back onto raising interest rates and reserve requirements to rein in liquidity. More of both to come.
This post was first published on China Bystander.
Filed under Banking, China
China Construction Bank, one of the two of the big four state-owned banks that fell below the regulators’ required capital adequacy ratios in March, is scaling back its rights issue to 61.7 billion yuan ($9.2 billion) from the originally proposed 75 billion yuan. The bank has just got regulatory approval to go ahead with the capital raising in Shanghai and Hong Kong. China’s big banks have been arm-twisted into raising new capital to shore up their balance sheets and meet new capital adequacy ratios as Beijing frets about possible bad debts coming back to haunt them after the stimulus-fed new lending spree of the past two years. The modest scaling back of the rights issue and record quarterly earnings announced last week by the largest state-owned banks suggest such anxieties may be easing, if only a tad. The great unknown remains what bad debt debt lurks in the unregulated underground banking system that operates at the county and city level and where as much as 20% of the loan assets of China’s banks now lie.
This post was first published on China Bystander.
Filed under Banking, China
The idea behind the new rules drawn up by central bankers to make banks sounder is straightforward enough: make banks hold a fatter cushion of capital to use if more loans than expected turn bad. It is in turning that simple principle into effective regulatory practice that is difficult.
The Basel Committee on Banking Supervision has announced a set of rules strengthening capital requirements for the banking system that will be presented to G20 leaders at their Seoul summit in November. These, in short, raise the banks’ required capital ratios from 2% to 7% though there is a lot of devilish detail in that, particularly around the new 2.5% capital buffer that is being created and how to risk-weight a banks’ assets. That detail is not trivial (defining capital quality has been an Achilles’ heel of the existing Basel accords), and has been the subject of a lot of national horse trading, particularly across the Atlantic, as has the implementation timetable. The rules will be phased in between 2013 and 2019, national regulators will retain a lot of flexibility in how they implement them and there is no agreement yet on what to do about what are called “systemically important banks” beyond a general sense they they should face stricter requirements than other banks.
Many big banks already meet the new rules, so their impact will be modest. Had they already been in place before the recent financial crisis it is by no means certain they would have forestalled it; nor are they likely to prevent the next one. They are a proper statement of intent by governments that banks should have sufficient capital to cover their exposure to risk, and, along with new rules on liquidity are the core of any financial regulation reform.
However, they only go so far in addressing the primary regulatory failure of the last crisis, the inability of regulators to identify building systemic risk. Last time round their risk models could not measure counterparty risk and thus the potential of contagion. The banks’ use of off balance sheet vehicles and complex derivatives products attracted lower risk weightings and so encouraged leverage; the new rules will discourage that and scratch deeper at risk weighting assets, but only up to a point and at a leisurely pace, giving banks plenty of time to work out how to get round them and animal spirits to regain their appetite to do so.
The devil is usually in the detail. The detail that matters with America’s newly passed financial reform legislation will be the rules and regs yet to be written and the appointments made to oversee the writing and enforcement of those rules and regs. Congress has passed a broad set of instructions to regulators but left, let us say, 75% of the work still to be done over the next four years. That leaves plenty more time and scope for the financial services industry to lobby to water down the provisions of the Restoring American Financial Stability (RAFS) Act still further.
As it is, the act does little to reduce systematic risk. The work being done on capital requirements, liquidity and leverage limits by the the G20’s Financial Stability Board to create global standards for systemically important financial institutions is likely to prove to be of more lasting significance in that regard.
Legislate first, regulate second is not novel in the U.S. Sarbanes-Oxley, the corporate governance legislation hastily enacted by Congress in 2002 in the wake of the WorldCom and Enron scandals, was similarly broad-brush. That its subsequent rule making was in line with the strict spirit of the legislation owed much to the presence of an activist chairman at the Securities and Exchange Commission in William Donaldson.
RAFS will involve many more regulatory agencies than just the SEC, offering not just a less natively uniform regulatory landscape but all the more opportunity for the financial services industry to divide and rule. Banks have already weakened in the act the impact of the proposed Volker Rule to limit their proprietary trading. Their next step will be to expand even further through rule making the types of proprietary trading they are allowed to undertake. The exemption for proprietary trading on behalf of customers gives them a massive loophole to start from. Similarly, banks will be lobbying to keep a growing range of bespoke derivatives trading off-exchange, while making sure new rules for trading standardized contracts on-exchanges aren’t too burdensome.
One area where there will be less scope for post-legislation tinkering is the new Consumer Financial Protection Bureau, which has been uncharacteristically tightly and narrowly drafted by the standards of the rest of the RAFS Act. Who gets appointed as its head and their skill in negotiating the Washington bureaucracy will be key. But even before then, as the president gets to nominate the candidate but the Senate has to confirm him or her, the tenor of consumer protection within financial services could turn on November’s mid-term elections as much as anything.