Good money after bad debts
China is facing a glut in the supply of goods because of overproduction. It has churned out more mobile phones, textiles, shoes and cars than the market will buy.
This can be seen in the 35.4 per cent plunge in manufacturing profits in the first eight months of this year, according to Ministry of Commerce figures. Meanwhile, the amount of product listed in inventory in 39 industries increased by 19 per cent during the first five months.
In the summer, China Banking Regulatory Commission officials had already noticed that the stockpiling of goods was shooting through the roof. Since then, the drop in profits has led to a tightening of liquidity and weakened firms' ability to repay loans. The industrial overcapacity is about to stimulate new growth in non-performing loans, and the timing could not be worse: it will further weaken a banking system struggling to bail itself out by selling assets and equity to foreign players.
Gao Jian, vice-governor of the State Development Bank, recently said: 'We will try our best to reduce loans to the manufacturing sector and shift funding to important infrastructure projects and bottleneck industries.' His words reflect official policy guidelines. Expect the final quarter of this year to be marked by tighter lending.
Bank of China officials have already declared that steel, cable and wire are all sectors to 'keep far away from'. The Minsheng Bank has said it would cut all credit lines to steel and machinery manufacturers. Only six months ago, banks were pouring money into these sectors even though economists had already spotted them as the tip of the bubble. The new direction is bad news for manufacturing - particularly the small- and medium-sized factories, many of which are privately owned. Smaller industries now find production slowing to a halt, and some are even facing bankruptcy as loan lifelines are cut. Manufacturers are also caught in a pinch between sharply increasing costs of materials and dropping sales prices.
Manufacturing is the bloodline of China's hyper growth, necessary to maintain the 8 per cent minimal growth needed to prevent massive unemployment and social unrest. Lending is the blood transfusion. With no new blood for the system, what will happen?
By the middle of this year, non-performing loans at commercial banks totalled 1.275 trillion yuan. Officials lauded this as progress: it was 555 billion yuan lower than at the beginning of the year.
More than a year ago, Premier Wen Jiabao ordered banks to drastically cut their non-performing loans. They did, by lending enthusiastically to manufacturing - priming an explosive increase in the non-performing-loan time bomb.
The financial restructuring of the Industrial and Commercial Bank of China involved writing off 705 billion yuan by June. But the mainland racked up another 105 billion yuan during the first half of this year alone. So while banks are busy sweeping dirt under the carpet, more accumulates on top.
If China's banks stop lending to manufacturing, then what is next? Luxury hotels, perhaps? The International Tourism Association predicts China will be the world's top destination by 2020. Tropical Hainan Island expects 30 million tourists that year. But already the number of new Hainan luxury hotels exceeds the estimated growth needs for the next 15 years. And everyone there is still building.
Mainland banks are sitting on 8.73 trillion yuan in deposits that cannot be lent to the market, because all sectors carry the credit risks associated with overcapacity. In the meantime, the banks have to pay interest on huge deposits - an unsustainable scenario.
So they have no choice but to lend, while knowing perfectly well there is nothing in the market that can be trusted not to spawn another generation of new non-performing loans.
Laurence Brahm is a political economist and lawyer based in Beijing
