Chinese banks are creating a "growing pool of hidden credit risk" through financial moves that shift loans off balance sheets to comply with government capital requirements, Fitch Ratings warned Friday. The ratings agency said in a report the practice could lead to conditions similar to those that triggered the US subprime crisis, in which banks suffered huge losses on mortgage-backed securities when housing prices fell.
"These transactions, which free up space to extend new loans and lessen the pressure on capital and liquidity, can lead to a noticeable reduction in a bank's outstanding loans," analysts Charlene Chu and Wen Chunling said. Fitch said banks were selling loans to financial institutions or repackaging them into wealth-management products in largely unreported transactions.
"Fitch suspects this activity was one factor behind the marked slowdown in aggregate loan growth figures in the second half of 2009, which may not have moderated as much as official figures suggest." China, which initially urged banks to pump up lending to help shield the world's third-largest economy from the global financial downturn, has expressed mounting concern over a resulting massive wave of lending this year.
Chinese banks issued a record 7.4 trillion yuan in new loans in the first six months of the year - including a monthly record 1.89 trillion yuan in March. But Beijing has since repeatedly warned banks to tighten risk defences, fearing a bad-loan debacle and amid suspicions that stimulus funds were being funnelled into stocks and property and contributing to an asset bubble.
Last month the government even threatened to impose some business curbs on banks that fail to comply. The pace of lending has since slowed with new loans totalling 294.8 billion yuan in November, up from 253.0 billion yuan in October, which was the lowest level of the year. Banks argue they face "minimal risk of losses from such deals" and therefore do not need to disclose them in their financial statements, Fitch said.
The Fitch analysts did not provide an estimate for the amount they said was being concealed through the financial manoeuvres. But they warned the situation bore the hallmarks of the subprime mortgage crisis. "Permitting banks to transfer all of the credit risk to third parties shields them from the consequences of bad credit decisions, which over time could foster the same type of recklessness witnessed with the securitisation of subprime loans in the US," the Fitch report said.
Fitch said it expected loan growth in China to be "less brisk" in 2010, with new loans growing by 20 percent year-on-year to eight trillion yuan. Separate research reports by BNP Paribas and Citigroup warned last month Chinese banks may need to raise billions of dollars on capital markets in coming years to repair the damage to their balance sheets caused by the lending spurt.
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