China’s
Bank Bailouts Are Even Scarier Than They Look
The financially weak, state-owned rescuers would be dangerous in
good times. This is the Covid-19 era.
By
April 27, 2020, 8:00 AM GMT+10
Banks are being bailed out in China, raising alarm. How
they’re being rescued is even scarier.
Acknowledging the growing
balance sheet problems among small and medium lenders, China’s banking and
insurance regulator says it’s working on a reform plan and will become
more vigilant about shareholders. That’s all good until you see what’s
happening in reality: The state is effectively replacing precarious, often
private, shareholders with financially weaker state-backed ones, or giving
them a larger say. That rarely instills confidence, even in good times.
These are anything but.
In the latest string of
rescues, Beijing is stepping in to back Hong Kong-listed Bank of Gansu Co.,
which in addition to deteriorating finances has also found itself on
the hook for overdue debts of one of its shareholders. All of that was made
worse by a collapse in its share price earlier this month due to margin
calls on stock pledged as collateral. As part of a plan announced April 18,
state-backed equity holders will raise their stakes to own almost half of
the bank, up from around 28%. The largest, a highway operator, is expected
to pay around 1.5 billion yuan ($212 million) to
subscribe to 40% of the new shares, raising its stake to 18.3%.
It’s an odd choice of rescuer. Gansu Provincial Highway Aviation Tourism Investment Group Co.’s balance sheet is already stretched. Its operating cash flow is insufficient to cover expenses and interest payments, according to S&P Global Ratings.
It’s an odd choice of rescuer. Gansu Provincial Highway Aviation Tourism Investment Group Co.’s balance sheet is already stretched. Its operating cash flow is insufficient to cover expenses and interest payments, according to S&P Global Ratings.
That the
owners are struggling with liquidity issues is problematic. Their equity
is part of the bank’s capital, and the uncertainties bleed over. Small and
mid-size lenders are already facing a shortage of this and market
confidence, with big banks unwilling to supply them with credit. The
rise of non-performing loans on the back of Covid-19 will erode their
buffers further. To help them cope, regulators recently loosened regulatory
limits for NPL coverage ratios, the loss reserves that need to be set
aside against bad loans, to release around 200 billion yuan of
capital.
Isn’t that what got Chengdu
Rural Commercial Bank Co. where it is today? It was owned and funded by
Anbang Insurance Group Co., 1 famed for its foreign-asset buying binge that
included New York’s Waldorf Astoria. At one point the lender, with around 40 subsidiaries across
rural China, depended on its shareholder for 40%
of deposits while Anbang accounted for 80% of related-party
transactions that were short-term money market loans. The bank also paid
Anbang close to 5% interest on its deposits and held its debt. When the
insurer was dismantled by regulators, Chengdu found its owners changing
hands to local government financing vehicles, with uncertainty around
major shareholders.
Then there was Baoshang
Bank Co., which last year became the first seized by the government in
decades. Its shareholder, Tomorrow Holding Co., was caught up in Beijing’s
corruption crosshairs, with founder Xiao Jianhua abducted from Hong Kong’s
Four Seasons Hotel by Chinese agents in 2017. It gets even messier:
Troubled Baoshang was a major shareholder of Bank of Gansu, with an 8.4% stake
at the end of 2019.
The tight
relationships and deep co-dependence with shareholders is at the heart of
the weakness: Who is funding who, or what? Related-party transactions
flourish. For instance, Bank of Gansu entered into a property-leasing
arrangement with an asset management company majority-held by the highway
operator and pays rent to it at commercial terms. Small as that is, the money
is still not being used productively.
It also opens up the one topic regulators hate to think about: direct contagion. Billions of yuan of assets are due from financial institutions to their peers in the interbank market and through repurchase agreements. More are in the form of deposits at other banks, from which lenders earn interest income of their own. Jitters in money markets, where leverage is building up as policymakers cut rates, could compound these problems.
The need for outside capital and fresh equity couldn’t be stronger. The only executable way to untangle these relationships and break the cycle is to bring in outsiders. But who is an outsider in China?
With Beijing looking to open its financial sector to foreigners, one way may be to ease licenses, allow majority control at the small-bank level, and incentivize the investment by agreeing to grant more access to millions of consumer deposits and borrowers. Without commercial, strategic investors — rather than financially embattled ones with vested interests — it’s hard to see how Beijing’s reform plans make headway.
Brace yourself. This frightening tale may go on for a while.
It also opens up the one topic regulators hate to think about: direct contagion. Billions of yuan of assets are due from financial institutions to their peers in the interbank market and through repurchase agreements. More are in the form of deposits at other banks, from which lenders earn interest income of their own. Jitters in money markets, where leverage is building up as policymakers cut rates, could compound these problems.
The need for outside capital and fresh equity couldn’t be stronger. The only executable way to untangle these relationships and break the cycle is to bring in outsiders. But who is an outsider in China?
With Beijing looking to open its financial sector to foreigners, one way may be to ease licenses, allow majority control at the small-bank level, and incentivize the investment by agreeing to grant more access to millions of consumer deposits and borrowers. Without commercial, strategic investors — rather than financially embattled ones with vested interests — it’s hard to see how Beijing’s reform plans make headway.
Brace yourself. This frightening tale may go on for a while.
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