Chapter 39 Changes in China's Financial System

There is no doubt that there is a Chinese way of doing business in China, but it is not a uniquely Chinese phenomenon.Any society has its own unique way of doing things, and these ways are not written down in the law.Citizens of the United States and Western European countries may be proud of the rule of law and transparency in their countries, but try to see if they can live in South Florida, Las Vegas without knowing someone from a local planning board or other related committees. Or a land business or a new real estate project in California?For a license, they may have to wait for several months, and they will encounter all kinds of troubles. The cost of the new project may be too high before it starts.In France, even if it is a powerful foreign-funded company, it still takes a lot of trouble to sell real estate, rent office buildings or start business. Although the relevant system is transparent, it has caused low efficiency.No matter which country you are in, the principle of having acquaintances is easy to do things is the same.

However, China's corruption situation is not as serious as many Westerners say, but it is true that Chinese banks have loans that are impossible to recover.It's just that the total amount of these non-performing loans has been debated.Official figures show that non-performing loans account for only a tiny fraction of total loans.The rest of the world is skeptical for a number of reasons, one of which is that the Chinese government first released the data in 1998.In addition, in the process of reforming the banking system, many banks' non-performing loans were transferred to new holding companies.In this way, non-performing loans do not exist on the surface, at least they disappear from the banks' books.However, the superficial elimination of non-performing loans is not the root cause of the transfer of non-performing loans.Both Zhu Rongji and Wen Jiabao, who successively served as Premier of the State Council, did not intend to cover up the problem.They are doers who want to build a strong and stable economy in China, and understand that playing with numbers is not the answer.

Both Zhu Rongji and Wen Jiabao are aware that China's state-owned banks have a lot of bad loans.They also understand that the expansion of credit, the absence of human relations and related institutions were an important reason for the bursting of the Japanese economic bubble in the 1990s.At the same time, they know China's own characteristics - the Chinese government has very little debt.This is in stark contrast to many developed countries, including the United States.No matter how many non-performing loans issued by Chinese banks, it has nothing to do with government debt.The more fundamental difference is that Chinese officials look at problems differently from those in the West.

The concept of non-performing loans basically speaks for itself.It cannot bring any benefit to the lender, and can only cause losses to the lender in the end.In the U.S. or Europe, a bank that makes a lot of bad loans is a failure. In the 1980s, the savings and credit crisis occurred in the United States. Hundreds of billions of dollars in loans flowing into the real estate development market suffered losses, and lending banks went bankrupt, leaving the government with a mess to clean up. The large-scale growth of subprime mortgage loans from 2005 to 2007 eventually led to the outbreak of the subprime mortgage crisis in 2008. In 2008 and 2009, a large number of bank failures, many banks only survived by the government bailout.Misjudging the reliability of credit, financial institutions issued those mortgages in bundled securities to purchasers who also overestimated the value of the credit.The crisis in the credit system had devastating consequences.

The relative size of non-performing loans in the overall Chinese economy is large compared with the relative size of the secondary market in the US or EU national markets. Japan in the 1990s and the US and Europe in 2008 all had crises over bad loans, but China did not.This fact is quite astonishing. The reason is simple, and perhaps it is because of simplicity that it has been overlooked. The 14th-century English theologian William of Occam once wrote that the simplest theory is usually the correct answer and explanation.Yet, time and time again, people abandon simple explanations in favor of complex answers.The reason non-performing loans haven't brought the Chinese economy to a standstill is because they aren't really bad loans.

Loans are truly nonperforming only if they are required to be repaid and have adverse consequences for the lender, or if they are treated as purely financial instruments from the outset.For most of the past 20 years, Chinese banks have extended loans to state-owned enterprises in neither of these cases.In fact, in China, loans are not regarded as a financial product that can bring returns, but as a financial driving force for the country's modernization.In essence, loans are checks written by the government, providing funds for China's economic transformation and modernization.Although the government also hopes that these loans will bring interest income to the banks, and hope that these loans will eventually be able to repay the interest, but these are not important compared with the modernization of the country.

The Chinese government and banks are not indifferent to the status of loans, but they have a different understanding of China's national conditions than foreigners.They don't care as much about the ratio of good and bad loans as foreigners do, or about the likelihood that their loans will be repaid.What they were dealing with was an old financial system with no pricing of risk, no capital charges, and no assessment of return on investment.The task of the bank is to facilitate the implementation of the Party Central Committee's policies and the implementation of local projects.From Deng Xiaoping to Hu Jintao, Chinese leaders have been determined not to allow China's currency to be traded and floated freely like other currencies, because they are well aware that opening China's financial system to global capital and financial institutions would seriously disadvantage China , this situation will be no less than the experience of the Soviet Union in the early 1990s.Moreover, since China's population size is much larger than that of the Soviet Union, and its social conditions are more complicated than that of the Soviet Union, the same situation will lead to more serious consequences.Chinese officials see the currency and closed banking system as the modern-day Great Wall, an important shield against external risks.

However, as the reform process continued, Chinese leaders realized that the country's banking system could not be closed forever.The focus of the reforms was to open China to the world, create a vibrant market economy, lift the Chinese out of poverty, and maintain the country's stability.Opening up, starting with new businesses, the government encourages new businesses to attract foreign investment and allows them to trade.At the same time, foreign companies can also conduct business in China.However, the banking system is not open.Moreover, China's banking system is completely different from the banking system in the eyes of Westerners.

In order to join the World Trade Organization, China agreed to allow foreign banks to do business in China within five years.Before the 2006 deadline, China's banking system must be reformed to accommodate the likes of Citigroup, Morgan Stanley and Deutsche Bank to set up branches and lend money in China.This is why Zhu Rongji started China's first round of banking system reform in the 1990s, and his successors have been committed to reforming the operating model of state-owned banks.They know that Chinese banks will be at a disadvantage if foreign banks compete in the domestic market.Because global financial institutions have a mechanism for capital pricing, evaluating the credit reliability of customers and taking risk factors into account, with the purpose of profit.While the 2008 financial crisis showed that many global financial institutions also have major flaws, Western banks operate with a more rigorous business model than China's.

Lack of attractiveness to individual deposits is one of the weaknesses of China's domestic banks.In the past, many people chose to keep all or a large amount of their savings at home in cash due to low interest rates and corruption.Banks also do not go to great lengths to attract capital from individuals or small businesses, instead relying on regular capital infusions from the state.This must change if domestic Chinese banks are to become more competitive with foreign financial firms. However, the imperative reform of China's banking system must be weighed against stability.Governments cannot easily ask banks to price risk and lend to private companies.And, economically, they are unlikely, whether feasible or not, to get banks to stop lending to state-owned enterprises or financing local projects.The old lending system can be wasteful and inefficient, but it is a system.It will continue to exist until a new system can replace it.

We can draw an analogy.If there is an old bridge in a city that is crumbling and in danger of collapsing, then the city is faced with a dilemma.It could choose to tear down the old bridge and build a new one, but that would likely take several years and create traffic problems while aiming to fix them.It could also choose to rehabilitate the old bridge every year, even if an eventual reconstruction is inevitable, to delay the rebuilding date as long as possible.Or, it can choose to build a new bridge next to the old bridge, keep the old bridge repaired until the new bridge is completed, and re-plan the traffic route after the new bridge can be put into use.Chinese officials face a similar conundrum when it comes to reforming the banking system. There are some key projects in the "Five-Year Plan" implemented by the Chinese government, and the existing banking system can provide funding channels for these projects.Although ending the planned economic system is the long-term goal of the Chinese government, China still maintains a state-driven economic model under the long-term strategy.Urbanization, modernization, and industrial and agricultural reforms are all coordinated and arranged through the Chinese government's macro-control.Banks play an important role in funneling state money into projects such as airports, roads, railways, mass transit, power stations and steel mills. While China encourages and requires the implementation of reforms, it also maintains some elements of the original system.China allows foreign competitors to enter the domestic market to provide motivation and models for domestic institutions; at the same time, China will provide sufficient protection for domestic institutions to ensure that they are not squeezed out of the market before they can become competitive.For short-term stability, inefficiencies in domestic institutions can be temporarily tolerated.Compared with other developing countries, China has two characteristics: first, it has funds in hand; second, even though China's closed economic system imposes various restrictions on foreign investment, global financial institutions are willing to do business in China.Facing other emerging economies, the attitude of Western banks is "You reform first, and we will provide funds and experience later", while in China, Western banks provide funds and experience first, expecting reforms to follow.This is because China is one of the few potential opportunities they can pursue in the context of constrained global economic growth in the early 2000s.For global financial institutions, China is almost still an undeveloped virgin land, the last unexplored market, and the world's major financial institutions want to enter this market. The Chinese are constantly making up for losses caused by bad loans. In early 2004, the Chinese government injected US$45 billion to restructure banks.At the same time, the Chinese government continues to issue business licenses to foreign-funded institutions in China.These include allowing large companies to invest in China's stock market, previously only open to Chinese citizens and companies, and buying stakes in some banks.A commentary by a foreign bank summed up Western views on the Chinese government's $45 billion capital injection for bank asset restructuring, saying: "To improve the quality and profitability of Chinese banks, in addition to asset restructuring, credit guarantees and a thorough reform of corporate governance It is necessary.” Simply put, “the bleeding may be temporarily stopped by what we do now, but the patient will still die unless greater action is taken”. However, the Chinese government does not see it that way.Because capital can flow into the Chinese market, but cannot easily flow out, the rules that apply almost everywhere else in the world do not apply in China.Yes, if China had been fully open to global capital and integrated into the global financial system, its non-performing loan levels and lack of institutions could have triggered a massive wave of write-downs, losses and bank failures, along with The depletion of capital.But none of this is happening, and it doesn't even appear to be happening.The Chinese government has no plans to call back the loans, and banks remain the main source of funding. The ultimate goal of the Chinese government is for Chinese banks to one day operate like other banks around the world.And that day will come only when banks are ready to break free from government help and have to compete on the basis of profitability.Until that day comes, the mixed system of "coexistence of new bridge and old bridge" will continue to exist. There were and are only two countries in the world that can act according to their own rules without being bound by the rules made by others. These two countries are China and the United States.The evolution of China's financial system is a case in point. The initial appearance of "Central America" ​​was also in the financial field.Even after being hit hard by the 2008 financial crisis, the U.S. is still able to run huge deficits because the dollar is the global currency of last resort and the U.S. government can lend itself.No other country has this capability because the dollar is not their domestic currency.China attracts a large number of foreign investors.These investors are demanding little and lobbying the government to invest in Chinese banks.They do this simply because they see the long-term potential of the Chinese market, which is unparalleled and irreplaceable, and necessary for their own long-term healthy development.Meanwhile, the flow of investment is two-way.China's central bank would use the surplus from the China-US trade surplus to buy US bonds. Benefiting from the characteristic policies formulated by the Chinese government and foreign capital's investment in Chinese banks, not only China's financial infrastructure, but also the financial infrastructure of the United States, and even the global financial system. At the end of 2008, the global financial system was on the verge of collapse, and the reason why it was finally avoided was largely due to the integration of the two economies of China and the United States. The way the US and other foreign capital invests in China's banking sector is very different from the way global financial institutions generally invest around the world, which allows China to reform its financial system by attracting foreign capital and drawing on external experience, especially that of the United States.The Chinese government has stated that it hopes that bank officials and heads of branches can strengthen self-discipline, and loan project managers must fully consider the long-term credit ability of borrowers and the future flow of funds of the project before approving loans.At the same time, the Chinese government also requires banks to increase their loan support for the growing middle class. This support involves credit card issuance, car loans, housing loans, etc., to enhance the bank's attractiveness to this group of savings deposits.In addition, the Chinese government is also working on creating an asset management mechanism to promote the development of the stock market. At the end of 2003, the Chinese government announced that it would amend the constitution to protect private property rights.Previously, despite China's buoyant real estate market and private sector development, its legal status has not been clarified.The lack of a clear definition of private property rights makes Chinese and foreign business circles generally believe that the relevant policies formulated by the Chinese government do not have corresponding legal protection.The constitutional protection of private property rights marks another step toward marketization of the Chinese economy, but it also sparks real estate speculation in some big cities.To curb the housing frenzy, the government turned its attention back to the stock market. In the Chinese stock market, foreign financial institutions also play an important role.The operation of the stock market is a much more efficient way of allocating capital, at least in theory.The stock market can also provide businesses with an additional source of funding provided by stockholders rather than banks. In the early 1990s, the Chinese government approved the establishment of two stock exchanges, one in Shanghai and the other in Shenzhen.Among them, the Shanghai Stock Exchange is the main one, with more than 1,000 companies listed in Shanghai.Only Chinese citizens are allowed to invest in Chinese stock markets.After an initial boom, China's stock market also stagnated and trading volumes shrank until 2004, when things began to improve. The Chinese stock market is different from the stock markets of other countries.Almost all listed companies are state-owned enterprises.They sell tiny stakes, have few audit reporting standards and are not geared toward the interests of stockholders.The stock market is where and how the Chinese government injects capital into state-owned enterprises that are on the verge of bankruptcy.Perhaps the Chinese government once hoped that stock market transactions would flourish, and hoped to allocate capital to successful companies and punish inefficient companies through the stock market, but there was no supporting financial infrastructure to realize these ideas.Businesses buy and hold shares in each other.The newly raised funds still have to flow into the black hole of inefficient state-owned enterprises. In 2002, the total market capitalization of China's stock market was about US$600 billion, a small figure by international standards.Only $150 billion worth of shares traded; the rest never changed hands. After 2001, in order to stimulate market development, the Chinese government began to work closely with foreign asset managers and seek advice from global market regulators.Some advantageous enterprises in China have begun to be listed and traded in Hong Kong to participate in global capital flows and abide by market management rules.Newly formed private companies have also begun seeking listings in China's Hong Kong region rather than mainland China. After 2002, companies began to turn their attention to the New York stock market. In 2003, there were only a handful of Chinese companies listed in New York.In 2004, there were more than 50 Chinese companies listed in New York.Investment bankers who help Chinese companies go public have frequently shuttled between Shanghai and Beijing in the past five years, cooperating with regulators to strive for more Chinese companies to be listed overseas, and also strive to improve China's financial market.Many of them have worked in Hong Kong and know it well, and some have also worked in London, Frankfurt or New York.Their desire to tap the potential of China's new generation of young entrepreneurs, as well as manage the public offerings of some attractive Chinese state-owned enterprises, resulted in a unique partnership between high-tech Internet companies and traditional banks and insurance companies. Shanda, NetEase and Ninetowns are all companies that provide online games, Internet portals and SMS services.These companies have many similarities with the American "new economy companies" of the Internet bubble era, and their initial public offerings have also been very successful.Generally speaking, the CEOs of these companies are in their early 30s, and they all have boyish looks.They've either worked as game developers, or they've worked in programming or marketing.Some games are original in China, and some are imitated from Korea.These enterprises combined the online game culture of Japan and South Korea with the start-up culture of Silicon Valley. Wall Street investment bankers professionally packaged them and promoted them to American investors.Take Ctrip as an example.Even though its business model has no obvious web features, the company nearly doubled its market capitalization on its first day of trading.Its main business is to integrate Chinese hotel and restaurant resources, and provide room reservation services for business travelers through telephone reservations.The company plans to provide online reservation services after the Internet becomes popular in China.But before the advent of the Internet service era, the market competitiveness brought about by being linked to the Internet is also irresistible. Although there are many similarities, there is one big difference between these Chinese companies and American companies in the "new economy era".They yield handsomely and can be traded at reasonable prices based on their income and growth in the calmer investment climate of the early 2000s.Although the performance of individual stocks is good or bad, on the whole, the qualifications of these companies are better than those of the US "new economy companies" 10 years ago.From the perspective of Sino-U.S. integration, these Chinese companies entered the U.S. capital market through Wall Street investment banks. Investment banks often own part of the shares of many companies. These investment banks once provided funding for these companies when they first entered the U.S. market After these companies are publicly listed, US hedge funds and asset management institutions can further subscribe for them.A new corporate culture has also been established among Chinese companies that leverages American capital and experience. Since 2003, a large number of major Chinese financial companies have listed in Hong Kong and New York, including China Life Insurance Company, Industrial and Commercial Bank of China, China Merchants Bank, Ping An Insurance Company and Bank of China.The Industrial and Commercial Bank of China has set the world's largest public offering since the 1990s, with Goldman Sachs alone agreeing to pay $2.5 billion for a 6 percent stake.Shares of Industrial and Commercial Bank of China surged after its public listing, and Goldman Sachs doubled its investment.12% of Morgan Stanley's full-year 2006 earnings, or more than $1 billion, came from securities underwriting fees for Chinese companies, including China's version of eBay, Alibaba.If the 1990s was the era when American companies flocked to the Chinese market, then the early 21st century was the era when Chinese companies went to Wall Street for gold. Many research institutions of American investment banks have put forward reports analyzing the dangers of China's financial system, but at the same time, they still invest billions of dollars in Chinese banks and insurance companies, and obtain billions of dollars from these financial institutions. USD service fee.As Chinese companies turn their attention to global financial markets, more innovative new ventures are looking at US capital markets and stock exchanges rather than domestic bank investments.Drawing on the experience of the United States, the Chinese government created a new financial system on top of the old financial system through capital injection.China's stock market has established a new regulatory mechanism to crack down on companies that submit false financial statements.Banks also have a responsibility to improve loan evaluation and capital pricing. After 2004, the Shanghai Stock Exchange’s composite stock price index rose rapidly, and the number of Chinese companies listed in New York and Hong Kong also increased rapidly. This is largely because investors have confidence in China’s financial system and believe that as With the establishment of rules and mechanisms and the increase of transparency, China's financial system can operate better. However, this does not suggest that China's financial system has changed overnight.Listing does not mean that state-owned enterprises regard the interests of stockholders as their operational goals, and it is not even easy for them to respond to investors' concerns.Gradual reforms and unprecedented opportunities mean that even if Chinese financial institutions buy US Treasuries to balance the trade deficit, there will still be a lot of money flowing from the US into Chinese financial markets.It is often said that money is fungible.For "Central America," that means money flows from the U.S. into China one way, and from China back to the U.S. the other way. In financial relations in China, the United States, and globally, capital flows and commodity transactions are two distinct and independent elements.However, the interweaving of different financial systems has changed the trajectories of the two economies of China and the United States. This change is beyond the prediction of traditional economic models.The Chinese economy has neither a hard landing nor a soft landing, and the steady growth of the US economy has not caused inflation and interest rates to rise.Even with credit expanding and housing booming, inflation was absent in the United States. In 2006 and 2007, inflation was seen in markets for important raw materials, but not in manufactured goods.China is attracting foreign capital, adjusting its financial structure, and supplying goods to the US market. At the same time, it is also buying US treasury bonds.China's economic growth has not slowed down, and US economic growth has not suffered the expected reversal. However, judging from what we have learned so far, due to the expansion of credit in the US real estate market, Wall Street has adjusted the financial products and their derivatives sold to global financial institutions including Chinese banks, which has caused serious consequences for the US economy.Just as a large number of American “new economy companies” sought development in China in the 1990s, American companies also encountered unfavorable growth within the market organizations of developed countries in the early 21st century, and had to compensate through the real estate market and the Chinese market.Through these two markets, the United States can make a lot of profits.However, the foundation of the real estate credit market and its derivative market is not solid, while the Chinese market is as solid as a rock. Although China's banking system is unstable, the economic growth it supports is real.This growth is reflected in infrastructure and housing construction, but also in all aspects of new business establishments.As long as the old system still exists side by side with the new system, some local business leaders and officials will still build some "face projects" to make their cities look as prosperous and modern as Shanghai and Beijing.This is the cost of China's development model. Traditional Western analysts always pay attention to the debt situation of the Chinese model.China, they say, spends too much and consumes too little on projects that yield nothing at all.They point out that while China's economic growth accelerated in the 21st century, consumption's share of GDP has fallen, while it has risen in the United States.However, such an analysis is not entirely accurate.In recent years, China's consumption has grown considerably, although its share in the overall economy has declined because consumption has not grown as fast as infrastructure spending.China is committed to creating a middle-class consumption-oriented economy, and consumer spending is the necessary condition and precondition for its establishment.All Western businesses acknowledge that China has successfully created the necessary market conditions.Therefore, if the investment into the Chinese market was growing steadily in the 1990s, then the investment into the Chinese market in the early 21st century can be said to have skyrocketed. Public perception of China has also changed. In 2002, I was still wondering whether Americans could understand China's development, or whether they would hold various skepticism about it.And in 2004, with the increasing coverage of China in business newspapers and magazines, I found that the Americans I talked to had realized that China was really rising, and realized that China's rise would have a major impact on the future of the United States and the world.They want to determine whether China's legal system will be further promoted, whether China's transparency will be further improved; they want to determine the impact of political tensions, environmental issues, etc. on China's development.But no one doubts that China is maturing and that China will change the world in the 21st century. As for the United States, even after the "9.11" terrorist attack, few people doubt that the United States will continue to enjoy global hegemony for a long time.Now China has stepped onto the global stage, standing in the center of the spotlight that was originally projected on the United States, and influencing the world.Unhappiness and anger in the United States are naturally unavoidable.