Framework for Analyzing Risks of Chinese Shadow Banking

Sara Hsu

Recently, I gave a private talk on the risks of shadow banking and included the following table in a handout. I include a somewhat abbreviated version on this blog post for readers to use as well. I rate and provide and brief explanation for the level of liquidity, solvency, and market risk contained in these shadow banking sectors. This is elaborated on to some extent in my recent blog post here.

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Sector Size Liquidity risk Solvency risk Market risk Overall risk Recent problem case
Trust products 10 tr. RMB High: Trust products have faced repayment issues Low-Medium: Trust products have generally been repaid or bailed out by local governments or companies Medium: When housing or infrastructure assets decline in value, this will bring down the value of trust assets Medium-High Credit Equals Gold #1, illegal trusts in Shenzhen
Wealth management products 9 tr. RMB (off balance sheet) Medium: WMPs have faced repayment issues where they contain trust products, maturity mismatch is a problem, may cause liquidity crunch if bank back them Low-Medium: WMPs based on non standard debt assets like trust products will likely be bailed out if recent history is a guide Low-Medium: Same as trusts-when non standard debt assets’ underlying value decline, this will bring down value of WMP assets Medium ICBC, Huaxia Bank
Entrusted loans 2 tr. RMB Low: The loans are made from corp. to corp. through banks so liquidity risk depends on indiv. corp. Low-Medium: The smaller borrowing firms may experience solvency issues as economy deteriorates Low: We lack data on loan use of borrowers-if going into real estate, decline in RE prices can create market risk Low No cases
Credit guarantee products 1-2 tr. RMB High: Credit guarantee companies guarantee interconnected entities that can create liquidity crisis when one is hit Medium-High: Correlated risks of guaranteed firms may lead to a sudden crisis of solvency; the local government has bailed out such firms previously Low-Medium: As bank loans sour in an economic downturn, credit guarantees may be called in Medium Tianyu Construction in Hangzhou
Bankers acceptances 9 tr. RMB (off balance sheet) Low: Banks back these company issued bills and will repay if necessary, although this may cause liquidity crunch in banks Low: Banks back these company issued bills and will repay if necessary Low-Medium: As the economy declines, some loans under bankers acceptance bills may sour; some risky loans extended recently Low-Medium No cases
Repurchase agreements (Repos and reverse repos) Varies Low: Repos are gen collateralized by highly rated debt in China Low: Repos are gen collateralized by highly rated debt in China Low: Underlying assets are of sufficiently high quality so as to not experience significant market risk Low No cases
Corporate bonds Varies/9 tr. RMB Low-Medium: In a down market, corporation may experience trouble repaying on time. Low: Bond defaults are not allowed in practice/ all this will change as more LGFVs roll out corp bonds and offshore sales of USD issued bonds increase Low-Medium: Bond yields are increasingly better at pricing in risk Low-Medium Chaori default
Informal finance (including pawn shops, money lenders, private equity, etc) 5 tr. RMB Low-Medium: In a down market, borrowers may experience trouble repaying loans on time Low-Medium: Informal lenders generally know their borrowers and can thus ensure repayment, sooner or later. As this relationship declines, solvency risk rises. Low: Informal finance is used for a variety of purposes and is sufficiently diversified to prevent market risk. Low-Medium Private financing crisis in Wenzhou-40 businesses defaulted

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