A long-awaited overhaul of China's corporate bond market could fall flat if government turf wars prevent an active market from developing between banks, since demand from elsewhere may take time to build up.
Companies are chomping at the bit to issue debt, which is much cheaper than bank loans. And economists say a thriving bond market is just what China needs to reduce the economy's reliance on bank lending and improve the allocation of capital.
So there were cheers all round this year when the government decided to transfer responsibility for listed-company bond issues of more than a year to the China Securities Regulatory Commission (CSRC) from the rigid body currently overseeing the market.
But, this being China, things are rarely simple. When the CSRC issued the new market's rulebook last week, it omitted a clause in an earlier consultation document requiring bonds to be registered with the stock exchange settlement company.
That was welcome, since banks are banned from buying listed securities and would have been unable to trade in bonds registered in that way. "It has removed the legal obstacle for corporate bonds to be traded in the interbank market," said Wang Haoyu, a bond analyst with First Capital Securities in Shenzhen. But the new rules still don't say explicitly that interbank trading will be allowed and that is causing uncertainty.
There are 10.07 trillion yuan ($1.33 trillion) in outstanding bonds in the Chinese debt market but most are treasury bonds. According to the central bank, Chinese firms raised only 35 billion yuan through bonds in the first half of this year, compared with 123.7 billion yuan on the stock market and a whopping 2.65 trillion in bank loans.
LONG PROCESS: Future trading rules will not be the remit of the CSRC alone. Other government agencies have to give their approval and that could take time. "I don't think they can reach agreement in the next six months - the problem has been there for many years," said Yang Yongguang, a bond analyst with Sealand Securities in Shenzhen.
Yan Yan, a vice president at China Chengxin International Credit Rating, the largest local rating agency, said demand would be limited if the bonds were listed on the stock market.
Retail investors may be put off bonds by rising interest rates and the returns on offer from stocks. Since banks would be unable to buy the bonds, that leaves institutional investors.
"Property insurance companies may have an interest in these products, but life assurers may prefer longer-term bonds and fund managers may prefer stocks. The market is limited," Yan said.
Wang at First Capital was even more blunt: "If corporate bonds can't be traded in the interbank market, the new market just won't be able to survive," he said.
A STEP FORWARD:
Until now the corporate bond market has been supervised by the National Development and Reform Commission (NDRC), the economic planning agency, which has a tortuous system for approving new issues, largely reserved for big state companies.
"Letting the securities watchdog oversee corporate bond issuance is a step forward," said Wang Yixuan, an analyst with the Shenzhen Stock Exchange.
She said many listed companies were looking forward to taking advantage of the CSRC's new, simpler rules; among other things, these allow proceeds to be used for general corporate purposes rather than designated purposes approved by the NDRC.
Last Wednesday Gemdale Corp became the first company to announce issuance plans within the new framework, saying it intended to sell 1.2 billion yuan in bonds.
China Yangtze Power Co, co-operator of the world's largest hydropower dam project, the Three Gorges, said it would issue up to 8.0 billion yuan in corporate bonds.
"Compared with bank loans, the cost of debt financing is lower; compared with a share offering, debt issuance is easier to do," said Wang with First Securities.
The benchmark rate for a five-year bank loan is 7.38 percent, whereas corporate bond coupons are generally between 4 and 5 percent. Wang said new issuance could reach 200-300 billion yuan a year if the bonds are allowed to trade in the interbank market. Government in-fighting is not a new obstacle to the development of China's bond market.
Central bank governor Zhou Xiaochuan became so frustrated at the NDRC's "planned-economy" mindset that he set up a short-term commercial bill market in 2005, exploiting a legal loophole that limited the planning agency's oversight to issues over 12 months.
The market quickly boomed. At the end of June the outstanding volume of bills, which trade among banks, was 267.7 billion yuan, according to central bank figures.
"It's still not clear whether the CSRC alone can solve the problem or whether they will need higher-level intervention," said Yan with rating agency China Chengxin.