BOFIT Viikkokatsaus / BOFIT Weekly 2018/02

The China Banking Regulatory Commission (CBRC) decided at the start of this year to restrict entrusted loans, whereby banks or specialised lenders move money owned by one firm to another firm. In the worst-case abuses, the company issuing the entrusted loan just borrows from a bank to make a loan for another firm that fails the bank's lending criteria. As the middle man is such arrangements, the bank typically pockets fees for e.g. setting up the loan and loan guarantee, but often fails to supervise the loan's performance. The new rules prevent banks from active involvement in the entrusted loan business. Firms will no longer be allowed to purchase securities or derivatives with entrusted loans.

The new regulations are part of a crackdown on the shadow banking sector. Shadow banking is estimated to have doubled over the past ten years and now accounts for roughly 15 % of private-sector financing under China's total social financing (TSF) definition. The growth in entrusted loans has been stunning. The stock of entrusted loans is now nearly 14 trillion yuan (USD 2.1 trillion) and accounts for over half of the shadow banking sector's TSF. The restrictions on entrusted loans extend earlier measures by the PBoC and supervisory agencies to quell off-balance-sheet lending and speculation on margin.

The new regulatory reforms rolled out this year also affect other parts of China's financial markets. New bond-trading rules to be introduced after a one-year transition include a requirement for written contracts on all bond repo and derivative transactions as well as leverage ratio restrictions on all buyers. Off-book trading and speculation on margin are common practices in China's roughly 67 trillion-yuan (USD 10.3 trillion) bond markets.

Reuters reports that the PBoC plans this year to limit the issuance of negotiable certificates of deposit (NCDs). Banks have been advised to obtain central-bank permission on their 2018 NCD quotas, which, combined with their interbank liabilities, may not exceed one-third of the applicant bank's total liabilities. The value of outstanding NCDs last year reached 8 trillion yuan (USD 1.2 trillion). NCD issues are popular particularly among small lenders for financing of longer-term investments, often via the shadow banking sector.