Bankers, local officials and financial regulators are trying to explain – and justify – a stunning surge in new loans.
Wen Xiu, Fang Huilei and Wu Ying 5 May 2009
China’s banks approved a combined 4.58 trillion yuan in new loans during the first quarter – a remarkable cash surge equal to the total amount of bank lending for all 2008.
It shocked some to see the credit floodgates open smack in the middle of a global financial crisis. Even more surprising was that, a month into the second quarter, lenders were showing no sign of letup; neither the market nor government policies appeared to be putting on the brakes.
One of the only hints of a possible slowdown came April 15, when China Banking Regulatory Commission (CBRC) Chairman Liu Mingkang called for “moderating” the loan pace.
But the loan writing has continued, raising key questions for China’s economy. Has this trend -- fanatical to some, sensible to others -- helped ease deflation and actually bolstered the economy? Or has it raised inflation risks and damaged financing mechanisms?
To what extent will bank lending grow or contract in the future? And what may be the consequences for China’s financial markets and Main Street economy?
The country’s key policymakers are offering few answers to these and other difficult questions. Neither are they willing to guess. “It’s still too early to come to a conclusion,” declared Yi Gang, deputy governor of The People’s Bank of China, at a recent press conference. It may be hard to tell whether the credit rush will help China’s economy recover from the effects of the global downturn. But risks and opportunities are becoming increasingly clear.
Credit Competition
Through most of April, some large banks were scaling back on new loans. The net effect, however, was zero.
According to a senior executive at a large commercial bank, April lending overall exceeded February’s level. What appeared to be a slowdown actually may have been just a temporary pause by banks following their lending craze in March.
Lending reached a peak during the last two days of the first quarter, bringing total loans for March alone to 1.89 trillion yuan. That beat the monthly record set in January -- 1.62 trillion yuan.
According to internal data, only one of China’s big Four Banks -- China Construction Bank -- stopped issuing loans for a short period during the first quarter. The pause came on the last two days of March.
But other members of the Big Four club -- ICBC, Bank of Agriculture and Bank of China -- actually accelerated credit outlays as the quarter drew to a close. The largest single loan was 120 billion yuan.
China Construction Bank, according to an inside source, had decided to curtail what it considered excessive lending by its local branches, which were using credit programs to increase market share. Credit reviews were tightened, and lending shrank to extremely low levels.
But the move was a minor blip. A risk management executive at another commercial bank said, for now, none of the banks can afford to sit on the sidelines in the current race for loan customers.
Data indicates that the Big Four banks account for 50 percent of all loans in the industry– and none is daring to relinquish a centimeter of market share.
More than business is at stake. Top executives at the Big Four banks are also government officials with vice minister-level positions. So in addition to caring for their banks, they are responsible for supporting the central government’s economic stimulus policy.
As the main lender for infrastructure projects -- a major component of the 4 trillion yuan stimulus package announced last fall -- China Construction Bank wrote an enormous number of loans at the beginning of this year. In March, the bank slowed its pace, but still managed to lend 170 billion yuan.
Other banks stepped up the pace. In particular, ICBC wrote about 310 billion yuan in new loans, and Bank of China issued loans worth 226 billion yuan in March.
Historical data indicates commercial banks tend to be more willing to lend during the first quarter each year. But the situation is a bit different in 2009.
One reason, according to a corporate loan executive at a large state-owned bank, is the influence of local governments on banks. Most local governments set criteria for regional branches of the big banks. For example, they decide how much the banks should provide to support local economies, making these evaluations public on a regular basis and, thus, putting pressure on the banks.
But pressure from the central government in Beijing may be even greater. According to a local branch executive at a state-owned bank, local branches have been asked by central authorities to increase lending several times since the beginning of the year.
Meanwhile, the banking industry is trying to explain the credit craze in another way: They, along with some companies, have said they’re worried that the central bank may soon tighten credit policy in reaction to loose lending in the first quarter.
The conflicting signals can be even more bewildering considering that the State Council, China’s cabinet, as well as government monetary authorities appear completely at-ease over the soaring credit levels.
Official Views
The People’s Bank of China held a meeting April 22 with senior executives in charge of lending at major banks. Yi, the deputy governor, told the gathering that rising credit since November 2008 has had good and bad dimensions, but that positive aspects overshadow the negative.
He also said the central bank would not restrict the scale of lending.
“For now, rapid credit growth has more merits than defects,” Yi said, according to one meeting participant. “But time is needed to test whether it is a magnifier or a stabilizer.”
This source assumed, based on the tone of Yi’s remarks, that the central bank would continue following a relatively loose credit policy, at least for now.
A day after the meeting, an editorial entitled To Implement Moderately Eased Monetary Policy was posted on the central bank’s Web site, affirming the source’s assumption.
Yi said in the article that merits of large-scale lending during the financial crisis outweigh the disadvantages. Credit lowers anticipation of deflation and stabilizes capital markets, he said. It also speeds up inventory cycles for companies. And higher loan levels can bolster public confidence in China’s stable, fast-growing economy.
Yi said authorities should think about the sustainability of rapid credit growth and any negative ramifications. He concluded that future lending activity should be stable and rational.
Yi is a scholar-turned-official with a background in macroeconomic studies. He predicted the 1998 deflation crunch in the early stages of the Asian financial crisis, and contributed to timely adjustment of the nation’s monetary policy. These contributions helped him rise from an academic post as an overseas returnee to chairman of the Monetary Policy Department at the central bank, and later deputy governor in charge of monetary policy.
His published works include The Process of China Going Monetary, which explains critical issues surrounding China’s ability to maintain double-digit money supply growth while avoiding serious inflation.
The nation’s monetary policy is not determined solely by the central bank, but Yi’s recent discussions on the merits of fast growth in lending serves as a window to Beijing’s overall attitude.
Credit is also seen as a way to boost economic growth. As Yi pointed out in his essay, companies that offload stock and normalize inventories consider credit helpful for manufacturing recovery and business cycle adjustment.
Indeed, writing loans “to secure growth,” provided that “risk controls are in place,” has been a stated Beijing objective since November.
Risk Control
But the government’s policy may be putting economic growth ahead of structural adjustment and risk management.
Chinese banks have not followed the path of overseas markets, where lending has been cut or frozen. Their extremely active lending quarter has shielded the Chinese public from feelings that a recession is under way. Public confidence in the economy has even strengthened in recent months.
Yet many bank executives and regulatory officials interviewed by Caijing expressed concern over the efficiency and effects of the lending spate, as well as its impact on economic structural adjustment.
“Will the economic stimulus plan disrupt the self-adjusting nature of the economic cycle?” asked a state-owned bank executive. “The biggest contribution made by an economic downturn is survival of the fittest, along with structural adjustment.”
These effects are particularly clear from a microeconomic perspective. A source close to Beijing authorities pointed out that local economies have seen overcapacities in some industries and have faced rising pressure due to excessive inventories.
For example, the nation’s steelmaking capacity was 660 million tons in 2008 -- an overcapacity of more than 160 million tons. After steel inventories bottomed out in December, they started to rise again this year.
Steel inventories grew as much as 86 percent in the January-February period. And by the end of March, the composite price index for steel had fallen 97.6 points, down 10.7 percent from early February’s level.
A jump in credit lending also poses remarkable challenges for bank risk management. A corporate loan executive at a state-owned bank said, “For the time being, project lending and liquidity lending control have been loosened to an extreme.”
The hint of moderation from CBRC’s Liu, who said “the pace of credit lending should be moderated” at a recent briefing on first quarter financials, came with an explanation that new risks can mount when risk management is relaxed and imprudent behavior creeps into the system during a period of soaring credit.
According to Liu, most first quarter loans were issued for local infrastructure projects, local investment and financing platforms. A monetary official at a local government said, under condition of anonymity, that infrastructure credit accounted for 70 percent of the new loans.
Although this infrastructure explanation may settle fears about excess lending to future overcapacity, it has not assuaged concerns over other risks stemming from local government projects.
The corporate banking source said, “Some government-backed investment and financing platforms have rather high levels of liability, and some have hastened the pace of debt increase.” But government fiscal abilities are limited, and fiscal revenues have sharply declined in the economic downturn.
“Although it is challenging for banks to assess the true fiscal condition of local governments, excessive liabilities only steal from the future,”the banker said.
Credit’s Merits
On the other hand, the big jump in credit lending has helped to quickly stabilize the capital market. The Shanghai Composite Index has climbed 600 points, or nearly 30 percent, so far this year. And any talk of an equity bubble has been muted.
“Chinese authorities now think some bubbles are better than none,” said a research chief at an international investment bank.
Credit is also seen as a deflation fighter. Deflation is considered more damaging to businesses than mild, single-digit inflation. And when commodity prices sink, deflationary pressure far exceeds the threat of inflation.
When the Chinese economy slumped in 1998 and 2003, state economic stimulus plans led to new rounds of rapid growth. If the world economy recovers from the current crisis and external demand rises again, China will have realized its goal of adjustment by ironing out wrinkles during the darkest period of the economic cycle.
Richard W. Fisher, president of the Federal Reserve Bank of Dallas, said in an interview with Caijing that corporate credit demand in China is less sensitive toward interest rate policy than in the United States. Therefore, the Chinese government can more precisely control the scale and direction of credit expansion, and may intervene in microeconomic activities.
Bankers that are writing the loans clearly understand that bank financial performance is closely related to the economic cycle.
Several senior executives at state-owned banks told Caijing that, to prevent a rise in non-performing loans in the wake of the latest lending surge, the economy must be kept from deteriorating. They said banks are now in a good position to support economic development.
Indeed, hints of economic recovery appeared in the most recent macroeconomic data. First quarter indicators for fixed-asset investment, retail sales and industrial production were positive.
Fixed-asset investment grew 28.8 percent year-on-year in the first quarter. In particular, new urban construction projects nationwide rose 87.7 percent year-on-year, after declining 4.4 percent in the first quarter 2008 year-on-year.
Local Trouble
Beyond the national statistics, however, the enormous amount of new lending has focused attention on the financial activities of local governments. Not all of the talk is positive.
For example, local governments have come under fire for using land as a capital base. A former central bank governor, Dai Xianglong, was being critical when he said at this year’s Boao Forum for Asia that some local governments “have used income from land leasing as a capital base or guarantees, which are special loans as foreign financial institutions see them.”
Risks attached to local investments and financing platforms mainly stem from the capital bases for projects. The greatest dangers surface when a capital base is lacking.
Beijing regulators have signaled that the capital bases for some projects are seriously inadequate. This came when regulators gave a green light to bridge loans for financing projects approved by the National Development and Reform Committee, which plans to lower capital base requirements for certain projects.
At the same time, regulatory authorities are concerned about loan misappropriation at the local level.
Several bankers told Caijing that many local banks have been under pressure to issue loans for local projects in response to the central government’s economic stimulus plan. Now, some fear that cash may have been misappropriated.
Such abuse could be tied to bank loans issued to meet local liquidity needs, to back letters of credit, and for buying securities.
Moreover, a corporate banking executive said some big enterprises have been known to concentrate capital by pooling their loans and recycling the cash. When that happens, banks lose control over the direction of their loans.
And when big companies are unwilling to increase capital investments, citing concerns about the economic cycle, borrowed money is likely to flow into the stock market and real estate for speculation.
Indeed, the executive said controlling capital flow and credit lending are long-term issues for the banking system.
How much misappropriation may be linked to this year’s increase in lending activity? That answer may never come.
But as the international investment bank executive explained, “For a long into the future, it is very likely to have economic recession together with big, crazy bubbles in the stock and real estate markets.”
“This will be a new, messy and distorted situation.”
Risk Aversion Sinks to Lowest Since 2007, Bank of America Says
By Lu Wang
May 8 (Bloomberg) -- Investors’ aversion to risk fell to the lowest level since July 2007 as stocks rallied and economic reports suggested the worst of the recession is over, according to a Bank of America Corp. gauge.
The Financial Stress Index, which uses 12 components including credit spreads, stock volatility and the price of gold, fell to minus 0.12 today. Values between plus 1 and minus 1 show investors are risk neutral. The measure peaked at 4.68 after Lehman Brothers Holdings Inc.’s collapse in September.
“Risk appetite is making a serious comeback,” Neil Dutta, a New York-based economist at Bank of America, wrote in a report distributed to clients today. “Financial market conditions are, at the very least, beginning to normalize.”
Stocks have rallied around the world in the past two months as companies from Credit Suisse Group AG to Ford Motor Co. beat earnings estimates and optimism grew that the worst of the credit crisis has passed. The MSCI World Index, a gauge of 23 developed countries has surged 39 percent since March 9.
Today, financial shares led a global rally in equities after Federal Reserve Chairman Ben S. Bernanke said a review of banks’ health “should provide considerable comfort” and a report showed the U.S. economy lost fewer jobs than forecast.
Bank of America’s risk index, created in 2003, was last this low three months before the Standard & Poor’s 500 Index set a record high in October 2007.
Dutta said half the measures it tracks are showing increased appetite for risk. The Chicago Board Options Exchange Volatility Index, or VIX, has dropped 21 percent this year. The difference between what banks and the Treasury pay to borrow money for three months, the so-called TED spread, has slipped to the lowest level since May 2008.
The New York Fed is the most powerful financial institution you've never heard of. Look who's running it.
By Eliot Spitzer May 6, 2009
The kerfuffle about current New York Federal Reserve Bank Chairman Stephen Friedman's purchase of some Goldman stock while the Fed was involved in reviewing major decisions about Goldman's future—well-covered by the Wall Street Journal here and here—raises a fundamental question about Wall Street's corruption. Just as the millions in AIG bonuses obscured the much more significant issue of the $70 billion-plus in conduit payments authorized by the N.Y. Fed to AIG's counterparties, the small issue of Friedman's stock purchase raises very serious issues about the competence and composition of the Federal Reserve of New York, which is the most powerful financial institution most Americans know nothing about.
A quasi-independent, public-private body, the New York Fed is the first among equals of the 12 regional Fed branches. Unlike the Washington Federal Reserve Board of Governors, or the other regional fed branches, the N.Y. Fed is active in the markets virtually every day, changing the critical interest rates that determine the liquidity of the markets and the profitability of banks. And, like the other regional branches, it has boundless power to examine, at will, the books of virtually any banking institution and require that wide-ranging actions be taken—from raising capital to stopping lending—to ensure the stability and soundness of the bank. Over the past year, the New York Fed has been responsible for committing trillions of dollars of taxpayer money to resuscitate the coffers of the banks it oversees.
Given the power of the N.Y. Fed, it is time to ask some very hard questions about its recent performance. The first question to ask is: Who is the New York Fed? Who exactly has been running the show? Yes, we all know that Tim Geithner was the president and CEO of the N.Y. Fed from 2003 until his ascension as treasury secretary. But who chose him for that position, and to whom did he report? The N.Y. Fed president reports to, and is chosen by, the Fed board of directors.
So who selected Geithner back in 2003? Well, the Fed board created a select committee to pick the CEO. This committee included none other than Hank Greenberg, then the chairman of AIG; John Whitehead, a former chairman of Goldman Sachs; Walter Shipley, a former chairman of Chase Manhattan Bank, now JPMorgan Chase; and Pete Peterson, a former chairman of Lehman Bros. It was not a group of typical depositors worried about the security of their savings accounts but rather one whose interest was in preserving a capital structure and way of doing business that cried out for—but did not receive—harsh examination from the N.Y. Fed.
The composition of the New York Fed's board, which supervises the organization and current Chairman Friedman, is equally troubling. The board consists of nine individuals, three chosen by the N.Y. Fed member banks as their own representatives, three chosen by the member banks to represent the public, and three chosen by the national Fed Board of Governors to represent the public. In theory this sounds great: Six board members are "public" representatives.
So whom have the banks chosen to be the public representatives on the board during the past decade, as the crisis developed and unfolded? Dick Fuld, the former chairman of Lehman; Jeff Immelt, the chairman of GE; Gene McGrath, the chairman of Con Edison; Ronay Menschel, the chairwoman of Phipps Houses and also, not insignificantly, the wife of Richard Menschel, a former senior partner at Goldman. Whom did the Board of Governors choose as its public representatives? Steve Friedman, the former chairman of Goldman; Pete Peterson; Jerry Speyer, CEO of real estate giant Tishman Speyer; and Jerry Levin, the former chairman of Time Warner. These were the people who were supposedly representing our interests!
Of course, there have been the occasional nonfinance representatives from academia and labor. But they have been so outnumbered that their presence has done little to alter the direction of the board.
So is it any wonder that the N.Y. Fed has been complicit in the single greatest bailout of poorly managed banks in history? Any wonder that it has given—with virtually no strings attached—practically the entire contents of the Treasury to the very banks whose inability to manage risk has brought our economy to its knees? Any wonder that not a single CEO or senior executive of a major bank has been removed as a condition of hundreds of billions of direct cash and guarantees? Any wonder that, despite its fundamental responsibility to preserve the integrity of the banking system, it sat quietly on the sidelines as the leverage beneath the banks exploded and the capital underlying their investments shrank?
I do not mean to suggest that any of these board members intentionally discharged their duties with the specific goal of benefitting themselves. Rather, what we have seen is disastrous groupthink, a way of looking at the world from the perspective of Wall Street and Wall Street alone. That failure has brought the world economy to the edge of unraveling. And some of Geithner's early missteps betrayed an inability to get beyond this tunnel vision, such as the idea that the banks need to be first in line to be paid and to be paid in full. We can only hope that Geithner, who, to his credit, did try to raise some of the regulatory issues that mattered while he was at the Fed, is no longer in the mental prison of Lower Manhattan and will have more success now that he has a board of one—President Obama.
Perhaps it is time to calculate what these board members have been paid by their banks in salary and bonuses over the years and seek to have them return it to the public as small compensation for their failed oversight of the N.Y. Fed. And more fundamentally, perhaps it is time to take a hard look at the governing structure and supposed independence of this institution that actually controls the use of our tax dollars and, heaven help us, the fate of our economy.
It used to be easy to guess how many Americans would have problems paying their credit card bills. Banks just looked at unemployment: Fewer jobs meant more trouble ahead.
The unemployment rate has long mirrored banks’ loss rates on card balances. But Eddie Ward, 32 and jobless, may be one reason that rule of thumb no longer holds. For many lenders, losses are now starting to outpace layoffs.
Mr. Ward, of Arkansas, lost his job at a retail warehouse in April and so far has managed to make minimum payments on his credit card debt, which he estimates at $15,000 to $20,000. Asked whether he thinks he will be able to pay off his balance, he said, “Not unless I win the lottery.”
In the meantime, he said, “I’m just doing what I can.”
Experts predict that millions of Americans will not be able to pay off their debts, leaving a gaping hole at ailing banks still trying to recover from the housing bust.
The bank stress test results, released Thursday, suggested that the nation’s 19 biggest banks could expect nearly $82.4 billion in credit card losses by the end of 2010 under what federal regulators called a “worst case” economic situation.
But if unemployment breaches 10 percent, as many economists predict, the rate of uncollectible balances at some banks could far exceed that level. At American Express and Capital One Financial, around 20 percent of the credit card balances are expected to go bad over this year and next, according to stress test results. At Bank of America, Citigroup and JPMorgan Chase, about 23 percent of card loans are expected to sour.
Even the government’s grim projections may vastly understate the size of the banks’ credit card troubles. According to estimates by Oliver Wyman, a management consulting firm, card losses at the nation’s biggest banks could reach $141.5 billion by 2010 if the regulators’ loss rate was applied to their entire credit card business. It could top $186 billion for the entire credit card industry.
In the official stress test results, regulators published losses only on credit cards held on bank balance sheets. The $82.4 billion figure did not reflect another element in their analysis: tens of billions of dollars in losses tied to credit card loans that the banks packaged into bonds and held off their balance sheets. A portion of those losses, however, will be absorbed by outside investors.
What is more, the peak unemployment level that regulators used to drive their loss estimates is roughly what current rates are on track to reach. That suggests that if the unemployment rate gets much worse, credit card losses could be worse than what regulators projected.
And many economists expect the number of job losses to climb even higher. On Friday, the unemployment rate reached 8.9 percent as the economy shed 539,000 jobs. The unemployment rate and the rate of credit card charge-offs, or uncollectible balances, have been aligned because consumers who lose their jobs are more likely to miss payments.
Banks wrote off an average of 5.5 percent of their credit card balances in 2008, while the average unemployment rate was 5.8 percent. By the end of the year, the rate of credit-card write-offs was 6.3 percent; more recent data was not available.
Experts predict that the rate of credit-card losses could eventually surpass the jobless rate because of the compounding effects of the housing crisis and lackluster consumer confidence. Shortly after the technology bubble burst in 2001, credit card loss rates peaked at 7.9 percent.
“We will blow right through it,” said Inderpreet Batra, a consultant at Oliver Wyman, which specializes in financial services.
Unlike in prior recessions, cardholders who recently lost their jobs are unlikely to be able to extract equity from their homes or draw down retirement accounts to help pay off their debts. That means borrowers who fall behind on their bills are more likely to default, leading to higher losses.
After writing off about $45 billion in bad debts during 2008, credit card lenders are bracing for the worst year in the industry’s history. Not only are losses spiraling, but also lawmakers are on the verge of passing a set of tough new consumer protections that could have a devastating effect on profits. This week, the Senate is expected to take up the Credit Cardholders Bill of Rights after the measure passed in the House with a strong bipartisan vote of 357 to 70.
Over the weekend, President Obama pressed lawmakers to approve the new rules, which would curb the ability of card issuers to raise interest rates retroactively on consumers and would require them to reduce hidden fees and penalties. He hopes to sign the legislation by Memorial Day.
For the banks, the economics of the credit card business are increasingly troubling. As the recession has dragged on, cardholders have sharply reduced spending. New customers with strong credit histories are increasingly hard to find.
And the most troubled borrowers are so deeply mired in debt that card companies are willing to strike deals to remove late fees and reduce card loan balances. The average American household is saddled with nearly $8,400 of credit card and other revolving debt, according to Moody’s Economy.com.
Every major credit card issuer has been approving fewer new applicants, reining in credit lines and canceling unused accounts. And Meredith A. Whitney, a prominent banking analyst, expects credit card lenders to cut the lines of credit they extend to borrowers by a total of $2.7 trillion through 2010. That is equivalent to a 57 percent reduction in the credit they made available two years ago at the height of the boom.
Within the card industry, all eyes are now focused on the sharp increase in unemployment. At Citigroup, executives noted that the company’s 10.2 percent credit card charge-off rate for the first quarter had broken its “historic correlation with unemployment” and showed no sign of letting up.
American Express, Bank of America and Capital One Financial showed first-quarter loss rates that hovered around 8.5 percent, roughly tracking the unemployment rate. All three said they expected higher losses in the coming months. Even Chase Card Services, which charged off just 7.7 percent of its card loans in the first quarter, expects its loss levels to surpass unemployment by the end of the year.
Card executives say there will little improvement until the economy stabilizes and consumers are more optimistic.
Cindy Schneider of Connecticut, 53, is a long way from being confident about her finances.
She is not making any money from her job as a real estate agent and cannot find work elsewhere. Her husband’s pay was just cut 10 percent. And she worries about how they will pay off a $5,000 balance on their credit card.
When her credit card company recently raised her interest rates, saying she was three days late with a payment, Ms. Schneider transferred the balance to another card with a lower rate.
“We are borrowing from Peter to pay Paul,” she said.
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China’s Loan Binge: Stimulus or Insanity?
Bankers, local officials and financial regulators are trying to explain – and justify – a stunning surge in new loans.
Wen Xiu, Fang Huilei and Wu Ying
5 May 2009
China’s banks approved a combined 4.58 trillion yuan in new loans during the first quarter – a remarkable cash surge equal to the total amount of bank lending for all 2008.
It shocked some to see the credit floodgates open smack in the middle of a global financial crisis. Even more surprising was that, a month into the second quarter, lenders were showing no sign of letup; neither the market nor government policies appeared to be putting on the brakes.
One of the only hints of a possible slowdown came April 15, when China Banking Regulatory Commission (CBRC) Chairman Liu Mingkang called for “moderating” the loan pace.
But the loan writing has continued, raising key questions for China’s economy. Has this trend -- fanatical to some, sensible to others -- helped ease deflation and actually bolstered the economy? Or has it raised inflation risks and damaged financing mechanisms?
To what extent will bank lending grow or contract in the future? And what may be the consequences for China’s financial markets and Main Street economy?
The country’s key policymakers are offering few answers to these and other difficult questions. Neither are they willing to guess. “It’s still too early to come to a conclusion,” declared Yi Gang, deputy governor of The People’s Bank of China, at a recent press conference.
It may be hard to tell whether the credit rush will help China’s economy recover from the effects of the global downturn. But risks and opportunities are becoming increasingly clear.
Credit Competition
Through most of April, some large banks were scaling back on new loans. The net effect, however, was zero.
According to a senior executive at a large commercial bank, April lending overall exceeded February’s level. What appeared to be a slowdown actually may have been just a temporary pause by banks following their lending craze in March.
Lending reached a peak during the last two days of the first quarter, bringing total loans for March alone to 1.89 trillion yuan. That beat the monthly record set in January -- 1.62 trillion yuan.
According to internal data, only one of China’s big Four Banks -- China Construction Bank -- stopped issuing loans for a short period during the first quarter. The pause came on the last two days of March.
But other members of the Big Four club -- ICBC, Bank of Agriculture and Bank of China -- actually accelerated credit outlays as the quarter drew to a close. The largest single loan was 120 billion yuan.
China Construction Bank, according to an inside source, had decided to curtail what it considered excessive lending by its local branches, which were using credit programs to increase market share. Credit reviews were tightened, and lending shrank to extremely low levels.
But the move was a minor blip. A risk management executive at another commercial bank said, for now, none of the banks can afford to sit on the sidelines in the current race for loan customers.
Data indicates that the Big Four banks account for 50 percent of all loans in the industry– and none is daring to relinquish a centimeter of market share.
More than business is at stake. Top executives at the Big Four banks are also government officials with vice minister-level positions. So in addition to caring for their banks, they are responsible for supporting the central government’s economic stimulus policy.
As the main lender for infrastructure projects -- a major component of the 4 trillion yuan stimulus package announced last fall -- China Construction Bank wrote an enormous number of loans at the beginning of this year. In March, the bank slowed its pace, but still managed to lend 170 billion yuan.
Other banks stepped up the pace. In particular, ICBC wrote about 310 billion yuan in new loans, and Bank of China issued loans worth 226 billion yuan in March.
Historical data indicates commercial banks tend to be more willing to lend during the first quarter each year. But the situation is a bit different in 2009.
One reason, according to a corporate loan executive at a large state-owned bank, is the influence of local governments on banks. Most local governments set criteria for regional branches of the big banks. For example, they decide how much the banks should provide to support local economies, making these evaluations public on a regular basis and, thus, putting pressure on the banks.
But pressure from the central government in Beijing may be even greater. According to a local branch executive at a state-owned bank, local branches have been asked by central authorities to increase lending several times since the beginning of the year.
Meanwhile, the banking industry is trying to explain the credit craze in another way: They, along with some companies, have said they’re worried that the central bank may soon tighten credit policy in reaction to loose lending in the first quarter.
The conflicting signals can be even more bewildering considering that the State Council, China’s cabinet, as well as government monetary authorities appear completely at-ease over the soaring credit levels.
Official Views
The People’s Bank of China held a meeting April 22 with senior executives in charge of lending at major banks. Yi, the deputy governor, told the gathering that rising credit since November 2008 has had good and bad dimensions, but that positive aspects overshadow the negative.
He also said the central bank would not restrict the scale of lending.
“For now, rapid credit growth has more merits than defects,” Yi said, according to one meeting participant. “But time is needed to test whether it is a magnifier or a stabilizer.”
This source assumed, based on the tone of Yi’s remarks, that the central bank would continue following a relatively loose credit policy, at least for now.
A day after the meeting, an editorial entitled To Implement Moderately Eased Monetary Policy was posted on the central bank’s Web site, affirming the source’s assumption.
Yi said in the article that merits of large-scale lending during the financial crisis outweigh the disadvantages. Credit lowers anticipation of deflation and stabilizes capital markets, he said. It also speeds up inventory cycles for companies. And higher loan levels can bolster public confidence in China’s stable, fast-growing economy.
Yi said authorities should think about the sustainability of rapid credit growth and any negative ramifications. He concluded that future lending activity should be stable and rational.
Yi is a scholar-turned-official with a background in macroeconomic studies. He predicted the 1998 deflation crunch in the early stages of the Asian financial crisis, and contributed to timely adjustment of the nation’s monetary policy. These contributions helped him rise from an academic post as an overseas returnee to chairman of the Monetary Policy Department at the central bank, and later deputy governor in charge of monetary policy.
His published works include The Process of China Going Monetary, which explains critical issues surrounding China’s ability to maintain double-digit money supply growth while avoiding serious inflation.
The nation’s monetary policy is not determined solely by the central bank, but Yi’s recent discussions on the merits of fast growth in lending serves as a window to Beijing’s overall attitude.
Credit is also seen as a way to boost economic growth. As Yi pointed out in his essay, companies that offload stock and normalize inventories consider credit helpful for manufacturing recovery and business cycle adjustment.
Indeed, writing loans “to secure growth,” provided that “risk controls are in place,” has been a stated Beijing objective since November.
Risk Control
But the government’s policy may be putting economic growth ahead of structural adjustment and risk management.
Chinese banks have not followed the path of overseas markets, where lending has been cut or frozen. Their extremely active lending quarter has shielded the Chinese public from feelings that a recession is under way. Public confidence in the economy has even strengthened in recent months.
Yet many bank executives and regulatory officials interviewed by Caijing expressed concern over the efficiency and effects of the lending spate, as well as its impact on economic structural adjustment.
“Will the economic stimulus plan disrupt the self-adjusting nature of the economic cycle?” asked a state-owned bank executive. “The biggest contribution made by an economic downturn is survival of the fittest, along with structural adjustment.”
These effects are particularly clear from a microeconomic perspective. A source close to Beijing authorities pointed out that local economies have seen overcapacities in some industries and have faced rising pressure due to excessive inventories.
For example, the nation’s steelmaking capacity was 660 million tons in 2008 -- an overcapacity of more than 160 million tons. After steel inventories bottomed out in December, they started to rise again this year.
Steel inventories grew as much as 86 percent in the January-February period. And by the end of March, the composite price index for steel had fallen 97.6 points, down 10.7 percent from early February’s level.
A jump in credit lending also poses remarkable challenges for bank risk management. A corporate loan executive at a state-owned bank said, “For the time being, project lending and liquidity lending control have been loosened to an extreme.”
The hint of moderation from CBRC’s Liu, who said “the pace of credit lending should be moderated” at a recent briefing on first quarter financials, came with an explanation that new risks can mount when risk management is relaxed and imprudent behavior creeps into the system during a period of soaring credit.
According to Liu, most first quarter loans were issued for local infrastructure projects, local investment and financing platforms. A monetary official at a local government said, under condition of anonymity, that infrastructure credit accounted for 70 percent of the new loans.
Although this infrastructure explanation may settle fears about excess lending to future overcapacity, it has not assuaged concerns over other risks stemming from local government projects.
The corporate banking source said, “Some government-backed investment and financing platforms have rather high levels of liability, and some have hastened the pace of debt increase.” But government fiscal abilities are limited, and fiscal revenues have sharply declined in the economic downturn.
“Although it is challenging for banks to assess the true fiscal condition of local governments, excessive liabilities only steal from the future,”the banker said.
Credit’s Merits
On the other hand, the big jump in credit lending has helped to quickly stabilize the capital market. The Shanghai Composite Index has climbed 600 points, or nearly 30 percent, so far this year. And any talk of an equity bubble has been muted.
“Chinese authorities now think some bubbles are better than none,” said a research chief at an international investment bank.
Credit is also seen as a deflation fighter. Deflation is considered more damaging to businesses than mild, single-digit inflation. And when commodity prices sink, deflationary pressure far exceeds the threat of inflation.
When the Chinese economy slumped in 1998 and 2003, state economic stimulus plans led to new rounds of rapid growth. If the world economy recovers from the current crisis and external demand rises again, China will have realized its goal of adjustment by ironing out wrinkles during the darkest period of the economic cycle.
Richard W. Fisher, president of the Federal Reserve Bank of Dallas, said in an interview with Caijing that corporate credit demand in China is less sensitive toward interest rate policy than in the United States. Therefore, the Chinese government can more precisely control the scale and direction of credit expansion, and may intervene in microeconomic activities.
Bankers that are writing the loans clearly understand that bank financial performance is closely related to the economic cycle.
Several senior executives at state-owned banks told Caijing that, to prevent a rise in non-performing loans in the wake of the latest lending surge, the economy must be kept from deteriorating. They said banks are now in a good position to support economic development.
Indeed, hints of economic recovery appeared in the most recent macroeconomic data. First quarter indicators for fixed-asset investment, retail sales and industrial production were positive.
Fixed-asset investment grew 28.8 percent year-on-year in the first quarter. In particular, new urban construction projects nationwide rose 87.7 percent year-on-year, after declining 4.4 percent in the first quarter 2008 year-on-year.
Local Trouble
Beyond the national statistics, however, the enormous amount of new lending has focused attention on the financial activities of local governments. Not all of the talk is positive.
For example, local governments have come under fire for using land as a capital base. A former central bank governor, Dai Xianglong, was being critical when he said at this year’s Boao Forum for Asia that some local governments “have used income from land leasing as a capital base or guarantees, which are special loans as foreign financial institutions see them.”
Risks attached to local investments and financing platforms mainly stem from the capital bases for projects. The greatest dangers surface when a capital base is lacking.
Beijing regulators have signaled that the capital bases for some projects are seriously inadequate. This came when regulators gave a green light to bridge loans for financing projects approved by the National Development and Reform Committee, which plans to lower capital base requirements for certain projects.
At the same time, regulatory authorities are concerned about loan misappropriation at the local level.
Several bankers told Caijing that many local banks have been under pressure to issue loans for local projects in response to the central government’s economic stimulus plan. Now, some fear that cash may have been misappropriated.
Such abuse could be tied to bank loans issued to meet local liquidity needs, to back letters of credit, and for buying securities.
Moreover, a corporate banking executive said some big enterprises have been known to concentrate capital by pooling their loans and recycling the cash. When that happens, banks lose control over the direction of their loans.
And when big companies are unwilling to increase capital investments, citing concerns about the economic cycle, borrowed money is likely to flow into the stock market and real estate for speculation.
Indeed, the executive said controlling capital flow and credit lending are long-term issues for the banking system.
How much misappropriation may be linked to this year’s increase in lending activity? That answer may never come.
But as the international investment bank executive explained, “For a long into the future, it is very likely to have economic recession together with big, crazy bubbles in the stock and real estate markets.”
“This will be a new, messy and distorted situation.”
Risk Aversion Sinks to Lowest Since 2007, Bank of America Says
By Lu Wang
May 8 (Bloomberg) -- Investors’ aversion to risk fell to the lowest level since July 2007 as stocks rallied and economic reports suggested the worst of the recession is over, according to a Bank of America Corp. gauge.
The Financial Stress Index, which uses 12 components including credit spreads, stock volatility and the price of gold, fell to minus 0.12 today. Values between plus 1 and minus 1 show investors are risk neutral. The measure peaked at 4.68 after Lehman Brothers Holdings Inc.’s collapse in September.
“Risk appetite is making a serious comeback,” Neil Dutta, a New York-based economist at Bank of America, wrote in a report distributed to clients today. “Financial market conditions are, at the very least, beginning to normalize.”
Stocks have rallied around the world in the past two months as companies from Credit Suisse Group AG to Ford Motor Co. beat earnings estimates and optimism grew that the worst of the credit crisis has passed. The MSCI World Index, a gauge of 23 developed countries has surged 39 percent since March 9.
Today, financial shares led a global rally in equities after Federal Reserve Chairman Ben S. Bernanke said a review of banks’ health “should provide considerable comfort” and a report showed the U.S. economy lost fewer jobs than forecast.
Bank of America’s risk index, created in 2003, was last this low three months before the Standard & Poor’s 500 Index set a record high in October 2007.
Dutta said half the measures it tracks are showing increased appetite for risk. The Chicago Board Options Exchange Volatility Index, or VIX, has dropped 21 percent this year. The difference between what banks and the Treasury pay to borrow money for three months, the so-called TED spread, has slipped to the lowest level since May 2008.
Fed Dread
The New York Fed is the most powerful financial institution you've never heard of. Look who's running it.
By Eliot Spitzer
May 6, 2009
The kerfuffle about current New York Federal Reserve Bank Chairman Stephen Friedman's purchase of some Goldman stock while the Fed was involved in reviewing major decisions about Goldman's future—well-covered by the Wall Street Journal here and here—raises a fundamental question about Wall Street's corruption. Just as the millions in AIG bonuses obscured the much more significant issue of the $70 billion-plus in conduit payments authorized by the N.Y. Fed to AIG's counterparties, the small issue of Friedman's stock purchase raises very serious issues about the competence and composition of the Federal Reserve of New York, which is the most powerful financial institution most Americans know nothing about.
A quasi-independent, public-private body, the New York Fed is the first among equals of the 12 regional Fed branches. Unlike the Washington Federal Reserve Board of Governors, or the other regional fed branches, the N.Y. Fed is active in the markets virtually every day, changing the critical interest rates that determine the liquidity of the markets and the profitability of banks. And, like the other regional branches, it has boundless power to examine, at will, the books of virtually any banking institution and require that wide-ranging actions be taken—from raising capital to stopping lending—to ensure the stability and soundness of the bank. Over the past year, the New York Fed has been responsible for committing trillions of dollars of taxpayer money to resuscitate the coffers of the banks it oversees.
Given the power of the N.Y. Fed, it is time to ask some very hard questions about its recent performance. The first question to ask is: Who is the New York Fed? Who exactly has been running the show? Yes, we all know that Tim Geithner was the president and CEO of the N.Y. Fed from 2003 until his ascension as treasury secretary. But who chose him for that position, and to whom did he report? The N.Y. Fed president reports to, and is chosen by, the Fed board of directors.
So who selected Geithner back in 2003? Well, the Fed board created a select committee to pick the CEO. This committee included none other than Hank Greenberg, then the chairman of AIG; John Whitehead, a former chairman of Goldman Sachs; Walter Shipley, a former chairman of Chase Manhattan Bank, now JPMorgan Chase; and Pete Peterson, a former chairman of Lehman Bros. It was not a group of typical depositors worried about the security of their savings accounts but rather one whose interest was in preserving a capital structure and way of doing business that cried out for—but did not receive—harsh examination from the N.Y. Fed.
The composition of the New York Fed's board, which supervises the organization and current Chairman Friedman, is equally troubling. The board consists of nine individuals, three chosen by the N.Y. Fed member banks as their own representatives, three chosen by the member banks to represent the public, and three chosen by the national Fed Board of Governors to represent the public. In theory this sounds great: Six board members are "public" representatives.
So whom have the banks chosen to be the public representatives on the board during the past decade, as the crisis developed and unfolded? Dick Fuld, the former chairman of Lehman; Jeff Immelt, the chairman of GE; Gene McGrath, the chairman of Con Edison; Ronay Menschel, the chairwoman of Phipps Houses and also, not insignificantly, the wife of Richard Menschel, a former senior partner at Goldman. Whom did the Board of Governors choose as its public representatives? Steve Friedman, the former chairman of Goldman; Pete Peterson; Jerry Speyer, CEO of real estate giant Tishman Speyer; and Jerry Levin, the former chairman of Time Warner. These were the people who were supposedly representing our interests!
Of course, there have been the occasional nonfinance representatives from academia and labor. But they have been so outnumbered that their presence has done little to alter the direction of the board.
So is it any wonder that the N.Y. Fed has been complicit in the single greatest bailout of poorly managed banks in history? Any wonder that it has given—with virtually no strings attached—practically the entire contents of the Treasury to the very banks whose inability to manage risk has brought our economy to its knees? Any wonder that not a single CEO or senior executive of a major bank has been removed as a condition of hundreds of billions of direct cash and guarantees? Any wonder that, despite its fundamental responsibility to preserve the integrity of the banking system, it sat quietly on the sidelines as the leverage beneath the banks exploded and the capital underlying their investments shrank?
I do not mean to suggest that any of these board members intentionally discharged their duties with the specific goal of benefitting themselves. Rather, what we have seen is disastrous groupthink, a way of looking at the world from the perspective of Wall Street and Wall Street alone. That failure has brought the world economy to the edge of unraveling. And some of Geithner's early missteps betrayed an inability to get beyond this tunnel vision, such as the idea that the banks need to be first in line to be paid and to be paid in full. We can only hope that Geithner, who, to his credit, did try to raise some of the regulatory issues that mattered while he was at the Fed, is no longer in the mental prison of Lower Manhattan and will have more success now that he has a board of one—President Obama.
Perhaps it is time to calculate what these board members have been paid by their banks in salary and bonuses over the years and seek to have them return it to the public as small compensation for their failed oversight of the N.Y. Fed. And more fundamentally, perhaps it is time to take a hard look at the governing structure and supposed independence of this institution that actually controls the use of our tax dollars and, heaven help us, the fate of our economy.
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Eliot Spitzer is the former governor of the state of New York.
Banks Brace for Credit Card Write-Offs
By ERIC DASH and ANDREW MARTIN
May 10, 2009
It used to be easy to guess how many Americans would have problems paying their credit card bills. Banks just looked at unemployment: Fewer jobs meant more trouble ahead.
The unemployment rate has long mirrored banks’ loss rates on card balances. But Eddie Ward, 32 and jobless, may be one reason that rule of thumb no longer holds. For many lenders, losses are now starting to outpace layoffs.
Mr. Ward, of Arkansas, lost his job at a retail warehouse in April and so far has managed to make minimum payments on his credit card debt, which he estimates at $15,000 to $20,000. Asked whether he thinks he will be able to pay off his balance, he said, “Not unless I win the lottery.”
In the meantime, he said, “I’m just doing what I can.”
Experts predict that millions of Americans will not be able to pay off their debts, leaving a gaping hole at ailing banks still trying to recover from the housing bust.
The bank stress test results, released Thursday, suggested that the nation’s 19 biggest banks could expect nearly $82.4 billion in credit card losses by the end of 2010 under what federal regulators called a “worst case” economic situation.
But if unemployment breaches 10 percent, as many economists predict, the rate of uncollectible balances at some banks could far exceed that level. At American Express and Capital One Financial, around 20 percent of the credit card balances are expected to go bad over this year and next, according to stress test results. At Bank of America, Citigroup and JPMorgan Chase, about 23 percent of card loans are expected to sour.
Even the government’s grim projections may vastly understate the size of the banks’ credit card troubles. According to estimates by Oliver Wyman, a management consulting firm, card losses at the nation’s biggest banks could reach $141.5 billion by 2010 if the regulators’ loss rate was applied to their entire credit card business. It could top $186 billion for the entire credit card industry.
In the official stress test results, regulators published losses only on credit cards held on bank balance sheets. The $82.4 billion figure did not reflect another element in their analysis: tens of billions of dollars in losses tied to credit card loans that the banks packaged into bonds and held off their balance sheets. A portion of those losses, however, will be absorbed by outside investors.
What is more, the peak unemployment level that regulators used to drive their loss estimates is roughly what current rates are on track to reach. That suggests that if the unemployment rate gets much worse, credit card losses could be worse than what regulators projected.
And many economists expect the number of job losses to climb even higher. On Friday, the unemployment rate reached 8.9 percent as the economy shed 539,000 jobs. The unemployment rate and the rate of credit card charge-offs, or uncollectible balances, have been aligned because consumers who lose their jobs are more likely to miss payments.
Banks wrote off an average of 5.5 percent of their credit card balances in 2008, while the average unemployment rate was 5.8 percent. By the end of the year, the rate of credit-card write-offs was 6.3 percent; more recent data was not available.
Experts predict that the rate of credit-card losses could eventually surpass the jobless rate because of the compounding effects of the housing crisis and lackluster consumer confidence. Shortly after the technology bubble burst in 2001, credit card loss rates peaked at 7.9 percent.
“We will blow right through it,” said Inderpreet Batra, a consultant at Oliver Wyman, which specializes in financial services.
Unlike in prior recessions, cardholders who recently lost their jobs are unlikely to be able to extract equity from their homes or draw down retirement accounts to help pay off their debts. That means borrowers who fall behind on their bills are more likely to default, leading to higher losses.
After writing off about $45 billion in bad debts during 2008, credit card lenders are bracing for the worst year in the industry’s history. Not only are losses spiraling, but also lawmakers are on the verge of passing a set of tough new consumer protections that could have a devastating effect on profits. This week, the Senate is expected to take up the Credit Cardholders Bill of Rights after the measure passed in the House with a strong bipartisan vote of 357 to 70.
Over the weekend, President Obama pressed lawmakers to approve the new rules, which would curb the ability of card issuers to raise interest rates retroactively on consumers and would require them to reduce hidden fees and penalties. He hopes to sign the legislation by Memorial Day.
For the banks, the economics of the credit card business are increasingly troubling. As the recession has dragged on, cardholders have sharply reduced spending. New customers with strong credit histories are increasingly hard to find.
And the most troubled borrowers are so deeply mired in debt that card companies are willing to strike deals to remove late fees and reduce card loan balances. The average American household is saddled with nearly $8,400 of credit card and other revolving debt, according to Moody’s Economy.com.
Every major credit card issuer has been approving fewer new applicants, reining in credit lines and canceling unused accounts. And Meredith A. Whitney, a prominent banking analyst, expects credit card lenders to cut the lines of credit they extend to borrowers by a total of $2.7 trillion through 2010. That is equivalent to a 57 percent reduction in the credit they made available two years ago at the height of the boom.
Within the card industry, all eyes are now focused on the sharp increase in unemployment. At Citigroup, executives noted that the company’s 10.2 percent credit card charge-off rate for the first quarter had broken its “historic correlation with unemployment” and showed no sign of letting up.
American Express, Bank of America and Capital One Financial showed first-quarter loss rates that hovered around 8.5 percent, roughly tracking the unemployment rate. All three said they expected higher losses in the coming months. Even Chase Card Services, which charged off just 7.7 percent of its card loans in the first quarter, expects its loss levels to surpass unemployment by the end of the year.
Card executives say there will little improvement until the economy stabilizes and consumers are more optimistic.
Cindy Schneider of Connecticut, 53, is a long way from being confident about her finances.
She is not making any money from her job as a real estate agent and cannot find work elsewhere. Her husband’s pay was just cut 10 percent. And she worries about how they will pay off a $5,000 balance on their credit card.
When her credit card company recently raised her interest rates, saying she was three days late with a payment, Ms. Schneider transferred the balance to another card with a lower rate.
“We are borrowing from Peter to pay Paul,” she said.
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