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Something missing about China's banks
Peter Zou
1/23/2004

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Three years ago some Westerner predicted China's economy would be bankrupted by its massive non-performing loans in three years. However, that has never happened so far. The root of the mistake is the lack of understanding about what a China's bank is.

China's economy survived without any bank of western definition from 1949 to the early 80's. Their banks were no more than public safe boxes and the government's institute to collect and distribute money which functioned like rationed coupons. The loss and gain were never measured in terms of market value.

After the economic reform took place in the early 80's, the public's thirst for money surged dramatically nationwide. Unlike the westerners who could use credit cards to make advanced use of their future income, many
Chinese entrepreneurs received lots of capital from the government who granted billions of yuan in loans through the banks to whoever had the channels to take them. The payback ratio of those loans was very low. The result was an overheated economy and inflation during the mid and late 80's. More fortunate than the South Americans or Russian, the Chinese, blessed with a huge domestic market and continuous foreign investment influx, were able to use the 'free money' to build the mushrooming private industries. This is what made China's GDP grow strongly. The government's loss became the private economy's gain. The banks' loss was called 'loss permitted by government
policy' at that time.

As the free market economy grows and the government pushes some of the banks to go public on the international stock market, the banks suddenly find themselves in trouble -- they now need to make loans and collect them with a profit to satisfy their shareholders. All the bank loan officers are complaining it is very hard to find enough qualified borrowers to digest the tons of funds waiting to be loaned. Since the early 2000's, the loss has started to trim down, but caused widespread deflation. The government has to park its huge foreign exchange reserves in the low yield U.S. T-bills due to the lack of profitable domestic use.

Currently, China's state-owned enterprises are the black hole of fresh bad loans. The U.S. government uses social work offices to distribute social welfare checks to the needy; by the same token, the Chinese government uses the banks to keep those enterprises alive to feed the workers who otherwise would be laid off. The government likes to put all those uncollectible 'loans' under the banks' name to avoid becoming direct target of mismanagement complaints. The question comes down to whether the banks should be accountable to the government or to the shareholders on the profit issue.

There has been an emerging public demand for the government to take over the social welfare task from the banks recently. As usual, the Chinese government is much more concerned about unemployment and social control than about bad bank loans. As long as the economy keeps growing and the government stays in control, most of the bad loans will be replaced by new saving deposits from private sector and newly issued bonds.

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