The Invisible Hand of the Chinese Central Government

The Invisible Hand of the Chinese Central Government

The Chinese central government has been driving through a series of changes in the country’s financial sector, acting as the invisible hand that steers the country’s growth and manages its risks. We would like to share with you a summary of these changes and our views of the potential impacts. Recent changes to the financial sector.

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Conclusion

The recent moves prove that the Chinese government still has ample tools to manage the growth and risks in the Chinese economy. This is largely because the economy is centrally directed and the country has huge foreign reserves. China’s debt to reserve ratio is still low at about 1.25 times (the U.S. debt to reserve ratio is 150 times!) 5,6.

Central government – The central government is taking on the risks of bad debts from the local governments. However, given the large reserves the central government has, it should manage this risk well.

Local government – The local governments should heave a sigh of relief as their debts’ maturity is lengthened and interest rate reduced greatly. However, given the poor record of capital allocation over the past several years, it is likely that the capital allocated to the local governments should moderate in the years ahead.

Private enterprises – We believe this sector will be where capital and credit will flow as banks find themselves with additional liquidity and one of their key borrowers (the local governments) now need less bank financing.

Banks – We believe the banks will find their interest margin squeezed due to the monetary loosening, interest rate liberalization and the debts-for-bonds swap. Non-performing loans should improve due to the overall reduction of credit risk with the central government actions as described above. Their share price valuation should improve with reduced credit risks and greater transparency in the debt situation.

In all, we like what we are seeing in the Chinese economy and we believe it should continue to perform well this year, barring unforeseen circumstances. We expect some choppiness in the Chinese stock market as some of the retail investor fever within China is deflated.
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1 – China Steps Up Economy Help With Reduced Bank Reserve Ratios http://www.bloomberg.com

2 – China Adds Stimulus With Third Interest-Rate Cut in 6 Months http://www.bloomberg.com

3 – China: Deposit insurance scheme starts today http://www.asiainsurancereview.com/News/View-NewsLetter-Article?id=32657&Type=eDaily

4 – China imposes $160bn municipal bonds for debt swap http://www.ft.com

5 – Trading Economics http://www.tradingeconomics.com

6 – World Debt clock http://www.nationaldebtclocks.org

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