Caixin
Oct 17, 2019 05:44 AM
FINANCE

China Urgently Needs to Reduce Banking Sector Risks, IMF Says

Trade tensions and elevated financial vulnerability continue posing downturn risks to the global economy, IMF says. Photo: VCG
Trade tensions and elevated financial vulnerability continue posing downturn risks to the global economy, IMF says. Photo: VCG

Chinese policymakers urgently need to reduce risks in the banking sector and use fiscal policy to defuse the effects of the trade war to rebalance the economy for the long term, the International Monetary Fund said.

Twists and turns of trade disputes and financial vulnerabilities stemming from persistent policy easing pose downside risks to the global economy, the IMF said in its latest Global Financial Stability Report (GFSA) and Fiscal Monitor reports issued Wednesday.

Trade tensions have continued to buffet financial markets and weaken business sentiment over the past six months, the IMF said. While easier financial conditions have supported economic growth and helped contain downside risks to the outlook for the near term, they have also encouraged more financial risk-taking and a further buildup of financial vulnerabilities, putting medium-term growth at risk, the IMF said.

A prolonged low-interest-rate environment has encouraged investors to take risks in search of financial returns and has led to stretched valuations in risky asset markets around the globe, the IMF said. Global growth and financial stability continue to be “firmly skewed” to the downside, it found.

“Policymakers should lean against the buildup of vulnerabilities by deploying and developing macroprudential tools as warranted and by maintaining stringent financial supervision,” the fund said.

The warning followed the IMF’s reduction of global growth forecasts in its latest World Economic Outlook report this week. Citing trade barriers and geopolitical tensions eroding the potential for economic expansion, the fund slashed its global growth forecast to 3% for 2019 — the lowest since the 2008 financial crisis — down 0.3 of a percentage point from the previous projection in April. It was the fifth consecutive downgrade to the 2019 forecast since July 2018.

The IMF also cut its global growth forecast for 2020 to 3.4%, 0.2 of a percentage point lower than its April projection and 0.1 of a percentage point below its July update.

The forecast for China’s growth was lowered to 6.1% for 2019 and 5.8% for 2020 — 0.2 and 0.3 of a percentage point lower than in April. The effects of escalating tariffs and weakening external demand exacerbated the slowdown in growth associated with needed regulatory strengthening to rein in the accumulation of debt, according to the IMF.

In the financial stability report, the fund highlighted elevated vulnerabilities in China’s financial systems, “largely due to leveraged positions in investment vehicles.”

In China, financial conditions are marginally tighter as a result of a decline in corporate valuations. Although small and medium-sized enterprises in China remain highly profitable, large businesses including state-owned enterprises have relatively weak profitability, the IMF said.

Although debt-to-assets ratios have recently declined in China amid deleveraging efforts, overall corporate debt remains high, and the size of speculative-grade debt is economically significant.

The assessment of the potential systemic impact of corporate vulnerabilities is complicated by implicit government guarantees and the lack of granular data on corporate sector exposures of different segments of the large, opaque and interconnected financial system in China, the IMF said.

The fund said Chinese authorities’ intervention in three small regional banks underscored the risks to its financial system.

In May, regulators took over the liquidity-crunched Baoshang Bank Co. in Inner Mongolia, a move that led to losses for some institutional creditors. In late July, several large state-owned financial institutions purchased minor stakes in the Bank of Jinzhou. And then in August, Hengfeng Bank received a capital injection from a unit of China’s sovereign wealth fund.

China faces a delicate task of striking a balance between maintaining market liquidity and introducing counterparty solvency risks, which is crucial to the country’s financial system reform, the fund said.

“Policymakers urgently need to introduce a bank resolution regime, alongside measures to reform the asset management industry and its linkages to banks,” it said.

In the separate Fiscal Monitor report, the IMF projected fiscal expansion in China this year resulting from a series of tax reforms and expenditure measures in response to slowing economic growth.

Victor Gaspar, director of the IMF's fiscal affairs department, said China took fiscal measures in recent months to cope with the impact of the trade disputes. In addition to stabilizing short-term growth, China should use fiscal policies to support its economic transformation, Gaspar said at a Wednesday press briefing.

“We very much welcome the contribution fiscal policy makes to the rebalancing of the economic growth model of China, especially where by increasing the purchasing power of consumers it fosters the move from exports to domestic demand and from investment to consumption, which is part of the transition of the growth model in China,” he said.

Contact reporter Han Wei (weihan@caixin.com)


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