Turning on the money tap will do little to ease China's liquidity bottlenecks
Hu Shuli says to ensure a flow of funds to the real economy, officials must resist demands for monetary easing and focus on structural reform
The shock fall in China's total social financing aggregate - the broadest measure of credit in the economy - has sparked misguided cries for monetary easing.
The financing aggregate measures the amount of funds available to the real economy at any given point in time. In July, the aggregate fell to 273.1 billion yuan (HK$343.3 billion), a drop of 546 billion yuan from a year earlier. The news follows dismal drops in both new loans and new bank deposits, so it's clear this is no cyclical fluctuation.
In fact, growth in total social financing turned sluggish back in April and May and, in the first two weeks of August, the nation's four biggest banks made only 56 billion yuan of new loans. There'll be no quick turnaround.
China is paying the price for its stimulus-boosted recovery in the wake of the global financial crisis. Not only has the problem of excess capacity become worse in some sectors and the risks of a property market correction greater, but the economy is now also grappling with local government debt.
Further, despite the recent roll-out of yet more - though much milder - stimulus measures, the economic slowdown shows few signs of abating. Lenders face a dilemma. On the one hand, the sectors where funds were traditionally channelled are now battling overcapacity amid attempts at structural reform; on the other, the new drivers of growth are far from mature and investment in fixed assets is slowing.
Apart from a handful of projects, such as the government-supported efforts in urban renewal and energy conservation, many lenders see little that can spur growth in the real economy. This is the main reason for the plunge in liquidity: lenders just can't find worthy projects to fund.
Inevitably, problems in the real economy have spread to the financial sector. A surge of bad debt has swept the country, with defaults affecting bank loans, trusts and other products issued by securities firms and asset management companies. As a result, lenders have become more cautious. Credit expansion for non-bank lenders has slowed.
Meanwhile, banks are closely scrutinising their new loans to high-risk sectors such as housing, steel and the various financing platforms. They're also clearing out non-performing loans. Naturally, this has the effect of hastening the retreat of non-bank lenders, who fear being left to shoulder the burden of the bad debt.
No wonder there are ever louder calls to ease monetary policy. But doing so would bring little benefit. Turning on the spigot may raise total lending, but it cannot direct funds to where they're desperately needed - a problem caused by overcapacity - and it cannot change the risk appetite of financial institutions. In fact, loosening monetary controls may create more opportunities for rent-seeking.
Loosening the controls generally involves adjusting the supply or price.
As things stand, there's little sense for an all-out boost to raise supply. Growth in the M2 broad money measure slowed in July, but was still higher than the target of 13 per cent, while interest rates in the currency market have been on the low side. Besides, foreign exchange funds have not seen the massive dips that would necessitate action.
What about lowering interest rates to adjust the price of money? The impact would be limited. China is already in the midst of liberalising its interest rates and has scrapped the lower limit of bank lending rates. A further lowering of rates would accomplish little, given the structural problems that prevent companies from having equal access to funds.
Besides, if the benchmark deposit rate is also lowered, while the upper limit on rates imposed on banks remains unchanged, commercial banks could lose a chunk of their deposits. Yet, if the benchmark deposit rate remains unchanged while the lending rate is lowered, this would reduce the margins for banks.
So far, the authorities have kept their cool. They've eased lending to rural borrowers and small businesses, and for certain projects through the use of the new tool of pledged supplementary lending, among other targeted adjustments.
The government is now focusing its efforts on lowering the costs of fund-raising. In July, guidelines were rolled out urging banks to look beyond the profit motive in managing their business. While the intention to improve bank management is worthy, it should be noted that banks, many of which are listed, should be subject to market competition, and should in fact be encouraged to make decisions based on market considerations. The government should refrain from interfering.
In sum, the way to fundamentally solve the problem of a credit crunch is to accelerate the government's programme of economic restructuring and systemic reforms, to nurture the new drivers of economic growth, and improve the rate of return in the real economy.
