1 China’s credit plunge in April hints at expansion of financial risks
China’s credit shrinks in April
May 11
According to data released by the People’s Bank of China:
- China’s M2 balance grew 7.2 percent from a year ago in April to reach 301.19 trillion yuan, while the M1 balance decreased by 1.4 percent to reach 66.01 trillion yuan. This is compared with an M2 and M1 growth rate of 8.3 percent and 1.1 percent respectively in March. Both the M2 and M1 growth rates hit historic lows.
- Newly added renminbi loans grew by 9.6 percent to 730 billion yuan in April. This was an increase of 11.2 billion yuan compared to the same period in 2023 (718.8 billion yuan).
- Household loans decreased by 516.6 billion yuan from a month ago; this is compared with a decrease of 241.1 billion yuan during the same period in 2023. Corporate loans (excluding bill financing) increased by 21.9 billion yuan from a month ago; this is compared with an increase of 555.9 billion yuan during the same period last year. Both household and corporate loans in April were lower than the five-year average increment, or 252.6 billion yuan and 664.2 billion yuan respectively.
- Household deposits decreased by 1.85 trillion yuan from a month ago; this is compared with a decrease of 1.2 trillion yuan during the same period in 2023. Corporate deposits fell by 1.87 trillion yuan from a month ago; this is compared with a decrease of 140.8 billion yuan during the same period last year. Fiscal deposits declined by 187.4 billion yuan from a month ago; this is compared with a decrease of 502.8 billion yuan during the same period in 2023.
- The scale of social financing decreased by 198.7 billion yuan in April; this is compared with an increase of 1.22 trillion yuan during the same period in 2023. This was the first monthly decline in aggregate financing since comparable data was used in 2017 and the first monthly decline since October 2005 using a smaller data set that excludes things like government funding. China’s aggregate financing for April was also significantly lower than the expected growth of 1 trillion yuan.
- Net financing of government bonds decreased by 98.4 billion yuan; this is compared with an increase of 454.8 billion yuan during the same period last year.
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Financial experts cited by official PRC media and mainland media cited three main factors in explaining why China’s credit shrunk for the first time:
- First, the bull market that began at the start of the year has boosted the yields of wealth management and other asset management products, leading to a diversion of bank deposits into wealth management products.
- Second, the regulatory authorities have intensified their regulation of practices such as capital arbitrage through tactics such as “lending low, deposits high” (低貸高存, or banks offering loans with low interest rates and earning interest on bank deposits; the interest rate on some structured deposits are higher than normal rates) and manual interest rate adjustment by banks (to retain large deposits, banks offer additional interest on top of the normal interest). This regulatory tightening has squeezed out some inflated portions of deposits and loans.
- Third, the National Bureau of Statistics revised the calculation method for assessing the value added of the financial sector. This meant that local governments had a markedly diminished impetus to expand deposits and loans to boost the value added of their respective financial sectors.
PRC starts 1 trillion yuan bond sale
May 13
The PRC Ministry of Finance announced that the first tranche (40 billion yuan) of its 1 trillion yuan of special sovereign bonds will be sold on May 17. Auctions of the securities will go on until a final batch of 30-year notes (up to 600 billion) goes on sale in November this year.
Meanwhile, bonds with 20-year (300 billion) and 50-year tenors (100 billion) will be offered from May 24 and June 14 respectively.
PRC expands scope of bad debt acquisition
May 9
Mainland financial publication Caixin reported that the PRC’s National Financial Regulatory Administration notified (“Document No. 474”) its local branches and financial institutions around mid-April that national asset management companies (AMCs) would be allowed to acquire assets from large and joint-stock banks.
A source from an AMC told Caixin, “This means that an AMC’s scope of acquiring financial assets from large and joint-stock banks is not limited to the three categories of non-performing loans, namely sub-standard, doubtful, and loss as defined by the five-level risk classification standard, and all five categories of assets can be acquired.” The five categories are normal, special mention, sub-standard, doubtful, and loss, with the latter three categories collectively considered to be non-performing loans.
The AMC source also said that the China Banking and Insurance Regulatory Commission has previously issued an opinion (“Document No. 62”) in mid-2022 allowing AMCs to acquire five categories of assets from small and medium-sized financial institutions. Document 474 expands the scope to include large and joint-stock banks and aims to encourage AMCs to aid major and joint-stock banks to resolve risky assets and revitalize existing credit.
Caixin further noted that it had previously learned from banking industry insiders that banks would join financial debt committees coordinated by local governments and regulatory authorities to handle cases of large enterprises facing default risks on the condition that defaulted assets would not be classified as non-performing and would not be reflected as bad loans in financial statements. This arrangement prevented many AMCs from acquiring assets from those banks.
PRC removes restrictions on insurance sales at bank outlets
The National Financial Regulatory Administration issued a notice canceling the quantity restriction on cooperation between commercial bank branches and banking outlets and insurance companies.
According to previous regulatory provisions, each branch of a commercial bank could only collaborate with up to three insurance companies for insurance agency business (aside from conducting internet-based insurance business and telephone sales of insurance products) within the same fiscal year.
Our take
1. Negative growth in multiple financial indicators such as aggregate financing, the M1 balance, and both household and corporate loans reflects further deterioration of the Chinese economy in the first four months of 2024 and escalating financial risks. These indicators also indirectly affirm our assessment that China’s GDP, industrial profits, and exports likely declined in the first couple of months of 2024 in contrast to the official claims of growth.
The explanation provided by financial experts in official PRC media for why China’s credit shrunk in April does not fully explain the phenomenon. For instance, the experts do not mention that the regulatory authorities’ increased crackdown on capital arbitrage and so-called manual interest rate adjustment are squeezing out liquidity from the system and will force funds to repay loans due to a lack of profitability. This is reflected in the slowdown in M2 growth in April and the reduction of corporate deposits.
Meanwhile, the negative M1 growth in April, along with the reduction of 516.6 billion yuan in household loans and a mere 21.9 billion increase in corporate loans (excluding bill financing), reflect sluggish commercial activities, lackluster production, and reduced property purchases. For instance, the top 100 Chinese real estate developers saw their sales in April decrease by 12.9 percent from the previous month and decline by 44.9 percent from a year ago, while industrial producer prices and purchasing prices have consecutively fallen for 19 and 18 months respectively.
Finally, the drop in aggregate financing is likely related to the decline in the scale of government bonds caused by the relatively slow issuance of national and local government bonds. China’s social financing has been propped up by government financing for a long time, with government financing accounting for nearly 40 percent of new social financing in February 2024. In April, however, repayment of government bonds exceeded their issuance, leading to a decline in government financing. April also saw a corresponding decrease in fiscal deposits.
2. The sluggish issuance of national and local government bonds could be related to increasing risks in the financial system:
- In 2023, the PRC authorities required large state-owned banks to provide liquidity to heavily indebted local governments. This effectively transferred local government risks to the financial system.
- Provinces and cities with severe local debt risks and negative population growth could be having trouble issuing bonds due to high debt levels and the low growth potential of their investment projects.
- The financial reports of the six major state-owned banks for the first quarter of 2024 show a decline in profits and net interest margins falling significantly below the caution line.
- The NFRA allowing AMCs to expand their acquisition of assets to large and joint-stock banks suggests that the scale of non-performing assets in those banks may have reached a point where it has become difficult to conceal and the PRC authorities have no option but to allow AMCs to acquire those assets to provide liquidity to the banks.
- The NFRA allowing commercial bank branches and banking outlets to sell more products from insurance companies suggests that the PRC authorities are hoping that the banks can help insurance firms sell more products to avoid a potential financial crisis and hints at increasing risks in the insurance industry.
3. The PRC finance ministry’s sale of long-term special sovereign bonds and the central bank’s recent signaling that it could use treasury bond trades as a monetary policy tool suggest that Beijing expects China’s economic downturn to persist for a considerable period and is looking to mobilize long-term funds to address financial risks as part of response measures.
The PRC previously issued three rounds of “ultra-long-term special government bonds” for emergency and specific purposes:
- In 1998 to raise capital for four major state-owned banks.
- In 2007 to raise capital for the State Administration of Foreign Exchange.
- In 2020 to raise funds for epidemic prevention and control.
The current issuance of ultra-long-term special government bonds, however, serves neither emergency nor specific purposes. The PRC authorities have also come up with an unprecedented category of 50-year notes, and will “normalize” the issuing of such ultra-long-term special government bonds in the upcoming months and years. Due to their lengthy maturity, the central bank also needs to engage in transactions by conducting repurchase agreements to provide liquidity to the banks.
4. The Xi leadership is likely to adopt stricter measures to address financial risks as domestic and international conditions become increasingly unfavorable to the Chinese economy. The crackdown on various forms of financial fraud, capital arbitrage, and financial sector corruption is likely to involve the investigation and arrest of more officials and executives in the financial sector.
We previously analyzed that the PRC’s financial sector and system have long been influenced by the Jiang Zemin faction, Party princelings, and other members of the CCP political elite. Xi Jinping’s effort to stamp out financial risks and consolidate his control over the financial sector and system will inevitably bring him into conflict with various factional interests who oppose him in the regime, heightening political risks and instability for Xi and the CCP regime.
2 CCP develops China’s western region in possible strategic adjustment
April 22 to April 24
Xi Jinping inspected Chongqing Municipality and presided over a symposium on promoting the development of China’s western region in the new era.
In a speech delivered at the symposium, Xi called for:
- Solidifying the national ecological security barrier in China’s western region.
- Promoting development through greater openness.
- Vigorously promote the construction of the western land-sea corridor, promote the development and opening up of regions along that route, and deeply integrate the construction with that of the Belt and Road Initiative.
- Expanding and strengthening a number of energy bases of national importance.
May 12 to May 14
State mouthpiece Xinhua published four back-to-back commentaries in a series entitled, “Implementing the Spirit of the Symposium on Promoting the Development of the Western Region in the New Era” (落實新時代推動西部大開發座談會精神).
The titles of the four articles are:
- “Adhere to Taking the Development of Characteristically Advantageous Industries as the Main Direction of Attack” (堅持以發展特色優勢產業作為主攻方向).
- “Adhere to High-level Protection in Supporting High-quality Development” (堅持以高水準保護支撐高品質發展).
- “Adhere to Promoting Great Development Through Great Openness” (堅持以大開放促進大開發).
- “Adhere to Coordinating Development and Security” (堅持統籌發展與安全).
Big picture
The PRC’s promotion of western region development comes amid increased pressure from the U.S. and the EU on Beijing to end support for Russia’s war effort, Xi Jinping’s trip to Europe and welcoming of Russian president Vladimir Putin to China, and the Biden administration’s levying of sweeping tariffs on a range of Chinese goods such as electric vehicles, solar panels, batteries, and semiconductors.
Our take
1. The PRC’s call to develop China’s western region indirectly signals that Beijing is preparing to weather escalations of tension and conflict against the U.S. and its allies as it sticks with supporting Russia and other subversive international endeavors.
The PRC’s western region development plan is part of its larger regional coordinated development strategy. The Jiang Zemin leadership first proposed the western region development strategy in the late 1990s to narrow the economic development gap between China’s more developed eastern and less developed western regions.
Under Xi Jinping, the western region development plan was reinforced as part of the 14th Five-Year Plan (introduced in 2019) and integrated into the plan to develop the Belt and Road Initiative. The recent refocus on and strategic adjustment of the western region development plan appears to be the continuation of an ongoing effort by Beijing to ready the CCP regime for a prolonged “new cold war” with the West.
The Xi leadership began to prepare for growing friction with the U.S. and its allies during the Trump presidency. President Donald Trump’s China tariffs, talk of decoupling and “friendshoring,” and ideological conflict with the CCP were likely major factors that prompted Beijing to build up the regime’s self-sufficiency and reduce the PRC’s dependence on exports for growth. To that end, the Xi leadership rolled out the “dual circulation” policy; promoted a strategy of regional complementarity; shifted industries from China’s eastern region to the central and western regions; leveraged the concentration of funds, technology, and manpower in eastern China to develop so-called “new quality production” (新質生產力, or cutting-edge technologies and breakthroughs); and sought to enhance the technical level of exports (to keep countries wanting Chinese products).
The outbreak of the Russia-Ukraine war in 2022 escalated geopolitical tensions between the PRC and the West and is forcing the Xi leadership to boost the regime’s self-sufficiency. This year in particular, Russia’s strengthening offensive and the growing danger of Ukraine’s front lines collapsing is threatening U.S. strategic interests in Europe, and has led the U.S. and its European allies to put more pressure against the PRC to stop backing Russia’s war effort (through supplying Russia with dual-use equipment, etc.). If Beijing refuses to end its partnership with Russia and change its stance on issues of international concern like “reunification” with Taiwan, then the PRC faces sanctions, escalated tensions, and even kinetic military action with the U.S. and its allies. And should there be war, the industrial areas along China’s southeastern coast would be vulnerable.
In theory, the Xi leadership’s western region development plan could help the CCP regime safeguard wartime production and supplies. There is precedent of the PRC developing China’s interior in preparation for conflict. During the 1960s, the Mao leadership invested heavily in national defense, technology, basic industries, transportation, and other infrastructure in China’s central and western regions as part of the Third Front Construction (三線建設) project to shore up the regime’s vulnerabilities in the event of air raids by the U.S. or an invasion by the Soviet Union.
Some of Xi Jinping’s recent speeches reveal his sense of crisis and desire to prepare the regime for extreme situations:
- June 2023: During an inspection of Inner Mongolia, Xi said, “Building domestic circulation ensures that the national economy can operate normally under extreme circumstances.”
- July 2023: During an inspection of Sichuan, Xi said, “Sichuan is a strategic hinterland for the development of our country and has a unique and important position in the overall national development, especially in the implementation of the western region development strategy.”
- December 2023: The PRC authorities called for the first time at the Central Economic Work Conference to “optimize the layout of major productive forces and strengthen the construction of a national strategic hinterland.”
- March 5, 2024: The PRC’s government work report proposed to “optimize the layout of major productive forces and strengthen the construction of a national strategic hinterland,” as well as to “formulate plans for optimizing and implementing main functional zones and improving supporting policies.”
2. Beijing’s focus on developing China’s western regions also hints at a potential readjustment that the CCP could be making to its plans for external expansion.
The CCP’s Belt and Road program (including its opening of naval bases abroad), sizable naval forces, provocative maneuvers in the South China Sea, and unwillingness to renounce aggression against Taiwan is pursuing “reunification” has left the U.S. and its allies very wary about the PRC’s development into a maritime power. This has led the U.S. and its allies to step up joint military exercises in the Indo-Pacific region (including with Taiwan), as well as strengthen alliances and retool military forces with an eye on countering China in the waters (i.e. AUKUS, stronger U.S.-Philippine ties, U.S. Marine Corp transformation, etc.).
Growing international attention on the PRC’s maritime capabilities and actions could have led the Xi leadership to make a strategic adjustment and focus on developing its continental prowess. The plan to develop China’s western region aside, Xi Jinping called for the vigorous promotion and construction of the “Chengdu-Chongqing economic circle” during his inspection of Chongqing. The “Chengdu-Chongqing economic circle” has industrial, financial, and technological capital, and is currently the only part of western China that can serve as a strategic base of sorts to expand the PRC’s continental power strategy. For instance, the PRC can develop westward from the “Chengdu-Chongqing economic circle” and have the regime grow its influence in Central and West Asia, and connect even further to North Africa. Developments southward would have the PRC extend its influence on Myanmar and other nearby Southeast Asian countries, and possibly even gain “access” to sea routes (via Myanmar) through the Bay of Bengal and out to the Indian Ocean, the Red Sea, and the Arabian Sea (thus potentially bypassing geopolitical troubles in the South China Sea).
3. The CCP’s plan to survive existing crises and lay the groundwork for future domination through the development of China’s western region appears designed to grant breathing space to the increasingly embattled regime. However, distant water may not arrive in time to extinguish a nearby fire, and Beijing is still some ways away from having the plan provide a viable outlet to its present problems. It is also highly doubtful that the PRC authorities will be able to successfully implement the western region development plan to a satisfactory degree, given the serious deficiencies of the CCP’s authoritarian dictatorship and factional struggles in the CCP elite.
