Mortgage Rate Trends - Beware of Six Financial Risks in China
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Although it is unlikely to see system-wide financial risks in China in the near future, there are however six potential risk areas that may significantly influence the Chinese economy, if not properly addressed.
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How is Beware of Six Financial Risks in China
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High inflation
Annualised consumer price index (Cpi) released in April had reached 8.5%, which is at an uncomfortable level. There are any reasons for the rapidly rising prices in China.
Rmb appreciation has only itsybitsy impact on the rising price of commodity imports. The rising food and metals prices in the world have directly contributed upward pressure to China's Cpi, and the rising vigor prices globally are increasing difficulties on Chinese government's domestic price control measures.
The potential of downstream industries to suck up price pressures from upstream materials suppliers has become minimal. Back in 2007, although the Chinese economy was also growing rapidly, the Cpi could nevertheless stay colse to 4%. This was because there had been a capacity surplus built up in downstream industries and the competition was intense.
But due to the rising Rmb and price adjustments in environmental protection, labour and land last year, profit margins in downstream industries have been suppressed. Therefore upstream price rises are now being passed onto consumers.
Price controls may be hard to maintain. The government's price control measures can well be sufficient to keep down price hikes in the short term, but it has been proven that the "control - subsidy" mechanism may not be sustainable. Take the example of refined oil products in China. The breakeven price for Chinese petrol refiners is about Us per barrel, but in the first quarter of this year, international oil prices had been colse to 0-110. So even though there are lots of fiscal subsidies to refiners, shortage of refined oil products are still occurring in some markets.
Foreign change risks
Due to Us dollar depreciation, Us Federal Reserve's rate cuts and People's Bank of China (Pbc)'s rate increases, Pbc's foreign currency preserve briefcase is showing widening losses arising from foreign currency (mainly Us dollar) asset depreciation and hedging costs.
According Pbc's equilibrium sheet released in February, it had equity of 21.975 billion yuan (Rmb:Usd = 7:1), equivalent to an equity/asset ratio of merely 0.12%. Procedure makers should now preclude the Pbc from assuming dual responsibilities of monetary Procedure and change rate policy, and let the government take over some of Pbc's quasi-fiscal deficit. If such deficits are left to be self-digested within the financial system, they may at last bring risks to China's monetary Procedure independence and even to Pbc's credibility.
Sharemarket volatility
The Chinese sharemarket's price to earning ratio reached a foreseen, 67 times in 2007, while it has gone down nearly 50% since 2008. Such volatility may lead the following impacts on the economy.
Social wealth will be added concentrated towards a small group of people. But due to the rapid ups and downs, a lot of the paper wealth hasn't been converted into real consumption, hence itsybitsy definite impacts on the consumer market.
The sharemarket's capital raising capacity has been severely impacted. The depressed sharemarket and the excess request for capital have prompted the authority to place restrictions on Ipo and refinancing activities, so that market integrity can be maintained.
On the other hand, in the overall context of excess liquidity in China, surplus capital may flow to other asset markets such as property market, resulting in new asset bubbles.
The declining sharemarket has also increased the difficulties of macro Procedure implementation and monitoring measures by the regulator, such as "market bailout" request and how to control liquidity while not added hammering the market.
Mortgage crisis
China's real estate qoute is largely a financial problem. By the end of 2007, real estate mortgage equilibrium of China was 4.8 trillion yuan, accounting for 17.3% of total lending balance. And real estate mortgage equilibrium growth accounted for 28.9% of total lending growth in 2007.
Amid the tightening monetary policy, some real estate fellowships that heavily depend on bank credit are now facing the risk of funding deficiency, and the potential of existing loans in some real estate fellowships may also deteriorate.
Reduced home affordability among home buyers may growth the risk of default. Loan repayment potential present on borrowers by Chinese banks is still relatively loose, and the credit system is still unsophisticated. Bank interest rates have cumulatively increased 1.44 percentage points in the middle of April 2006 and Dec 2007, added increasing the risk of default by less affordable home buyers.
The severe improvement in China's real estate market may lead to immense negative equity among property owners. For properties purchased within a year, if their prices go down 30%, many mortgages may become a negative equity for their buyers, or buyers may be forced to give up their property ownership.
Banking sector risk
Since the banking industry reform, the proportion of non-performing assets in Chinese banks has substantially reduced, but hereafter operational risks still remain.
Bank profits are still relying on former company liens and non-marketised interest rate differentials. Although China's banking industry has seen improved proportion of intermediary company wage in 2007, such growth was heavily depending on wealth management businesses. As the sharemarket continues to decline, wage from wealth management businesses is foreseen, to shrink significantly in 2008.
Bank equilibrium sheet management and liquidity management need to be adjusted. In January 2008, long term lending accounted for 50% of total lent assets in China's financial institutions, up 13% from the 2001 level. But on the other hand, short term deposits amounted to 40.3% of total deposit base, with no corresponding decline from 2001.
Bank earnings are still chasing heated industries. Loans from market banks have generally concentrated in industries such as real estate, transportation, social utilities and manufacturing. Amid the tightening monetary environment, if banks suddenly cut their lending to those overheated industries, it may lead to severe funding breakdown in some highly-leveraged companies, hence loan potential deterioration.
International currency crisis
The current international currency system possesses definite deficiencies, but a dramatic adjustment to this system will not be useful to most economies, either. It will still be difficult for China's financial system and financial industry to adapt to the involved international currency environment.
Firstly, China's international trading activities are primarily located in Usd, hence heavy dependence on the Usd in terms of foreign change rate setting and community system. Secondly, as a country with huge trade surplus, both the Chinese government and the hidden sector have accumulated immense Usd asset, therefore any Usd depreciation will cause immense losses to China's foreign change asset. Thirdly, even though the Usd's international currency status is declining, Rmb regionalisation is still at an early stage, not capable of filling up the requirement of a regional currency in Asia. Lastly, if any change in Usd's status affects the Hong Kong Dollar, which is pegged to the Usd, mainland China may have to bear some kind of ramification responsibilities.
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