The following chart from Bloomberg showing official Chinese NPL data has its pros and cons.
The pros: it shows that the trend in improving NPLs has dramatically inverted in the past ten quarters and has risen to the highest in at least three years.
The cons: the chart, which again is based on official data, is woefully misrepresenting and underestimating just how profound the bad debt situation is in a country in which each month pseudo-nationalized banks issue loans amounting to the same or more in new liquidity as the Fed and BOJ do combined!
That the Chinese reality “on the ground” is far worse than what is represented was known to Zero Hedge readers over a year ago. For those who may have forgotten, on November 5, 2012 we showed “The Chinese Credit Bubble – Full Frontal” and specifically this chart.
And of course “The True Chinese Credit Bubble: 240% Of GDP And Soaring” from April:
What is even more concerning is that in order to maintain its breakneck economic “growth” of ~8% per year, China has to continue injecting massive amounts of debt, the so called “credit impulse” or “flow” which according to assorted views, is what is the true driver of an economy, and where GDP growth is merely a reflection of how much credit is entering (or leaving) the system.
The chart below shows that total Chinese social financing flow just hit a record for the month of March.
Completing the picture is the estimated economic response to a surge in credit. As the last chart shows, in China the biggest benefit to a surge in flow is felt in the quarter immediately following the credit injection, as one would expect, with the effect tapering off and even going negative in future quarters, thus requiring even more debt creation to offset the adverse impacts of prior such injections.
What should become obvious is that in order to maintain its unprecedented (if declining) growth rate, China has to inject ever greater amounts of credit into its economy, amounts which will push its total credit pile ever higher into the stratosphere, until one day it pulls a Europe and finds itself in a situation where there are no further encumberable assets (for secured loans), and where ever-deteriorating cash flows are no longer sufficient to satisfy the interest payments on unsecured debt, leading to what the Chinese government has been desperate to avoid: mass corporate defaults.
But while China’s debt – an arcane mixture of public, private, and pseudo-government backstopped credit – is among the biggest in the world, the one outstanding question was how much longer can China keep sweeping the hundreds of billions if not trillions of discharged, bad loans under the carpet and pretend everything is fine.
Today we get some much needed perspective on this topic courtesy of Bloomberg, which has some very disturbing revelations.
Such as this:
An unidentified local bank reported a 33 percent nonperforming-loan ratio for the solar-panel industry, compared with 2 percent at the beginning of the year, with the increase due to Wuxi Suntech, China Business News reported in September.
China’s lending spree has created a debt burden similar in magnitude to the one that pushed Asian nations into crisis in the late 1990s, according to Fitch Ratings.
As companies take on more debt, the efficiency of credit use has deteriorated. Since 2009, for every yuan of credit issued, China’s GDP grew by an average 0.4 yuan, while the pre-2009 average was 0.8 yuan, according to Mike Werner, a Hong Kong-based analyst at Sanford C. Bernstein & Co.
“The real situation is much worse than the data showed” after talking to chief financial officers at industrial manufacturers, said Wendy Tang, a Shanghai-based analyst at Northeast Securities Co., who estimates the actual nonperforming-loan ratio to be as high as 3 percent. “It will take at least one year or longer for these NPLs to appear on banks’ books, and I haven’t seen the bottom of deterioration in Jiangsu and Zhejiang yet.”
China’s credit quality started to deteriorate in late 2011 as borrowers took on more debt to serve their obligations amid a slowing economy and weaker income. Interest owed by borrowers rose to an estimated 12.5 percent of China’s economy from 7 percent in 2008, Fitch Ratings estimated in September. By the end of 2017, it may climb to as much as 22 percent and “ultimately overwhelm borrowers.”
Meanwhile, China’s total credit will be pushed to almost 250 percent of gross domestic product by then, almost double the 130 percent of 2008, according to Fitch.
Based on current valuations, investors are pricing in a scenario where nonperforming loans at the largest Chinese banks will make up more than 15 percent of their loan books, according to Werner, who forecasts a 2.5 percent to 3.5 percent bad-loan ratio by the end of 2015. A further decline in GDP growth would lead to more soured loans and weaker earnings, he said.
Lenders so far haven’t reported significant deterioration in loan quality. Bank of China said it had 251.3 billion yuan of loans to industries suffering from overcapacity as of the end of June, accounting for 3 percent of the total. Its nonperforming-loan ratio for those businesses stood at 0.93 percent, the same level reported for the entire bank.
All of the above is driven by one main factor – a relentless desire to fund China’s epic scramble into record overcapacity – after all gotta keep that goalseeked GDP above 7% somehow – which in turn has resulted in the producers competing themselves right out of solvency:
Shipbuilding isn’t the only industry affected by overcapacity. Also in Jiangsu, about 130 kilometers (80 miles) southwest of Nantong, Wuxi Suntech Power Co., the main unit of the industry’s once-biggest supplier, went bankrupt with 9 billion yuan of debt to China’s largest banks, according to a Nov. 12 report by Communist Party-owned Legal Daily. Suntech Power Holdings Co. (STPFQ), the parent firm, defaulted on $541 million of offshore bonds to Wall Street investors.
Shang Fulin, China’s top banking regulator, this month urged lenders to “seek channels to clean up bad loans by industries with overcapacity to prevent new risks from brewing” and refrain from dragging their feet in dealing with the issue.
Government and banks’ support for the solar industry since late 2008 has resulted in at least one factory producing sun-powered products in half of China’s 600 cities, according to the China Renewable Energy Society in Beijing. China Development Bank, the world’s largest policy lender, alone lent more than 50 billion yuan to solar-panel makers as of August 2012, data from the China Banking Association showed.
China accounts for seven of every 10 solar panels produced worldwide. If they ran at full speed, the factories could produce 49 gigawatts of solar panels a year, 10 times more than in 2008, according to data compiled by Bloomberg. Overcapacity has driven down prices to about 84 cents a watt, compared with $2 at the end of 2010. The slump forced dozens of producers like Wuxi Suntech into bankruptcy.
The downside is well-known: should the people not get paid, riots inevitably ensue. Which is why the government will keep on bailing out and pretending the local loans are viable, until it no longer can.
“The central government is hawkish in its tone, but when it comes to execution by local governments, the enforcement will be much softer,” Bank of Communications’ Lian said. “Many of these firms are major job providers and taxpayers, so the local government will try all means to save them and help them repay bank loans.”
When hundreds of unpaid Mingde Heavy workers took to the streets for a second time last November, the local government stepped in by lining up other firms to vouch for Mingde so banks would renew its loans. Mingde Heavy avoided failure by entering into an alliance with a shipping unit of government-controlled Jiangsu Sainty Corp., which also imports and exports apparel.
As for the CNY64 trillion question of how much long the government can pretend all is well, the following may be useful.
The nation might face credit losses of as much as $3 trillion as defaults ensue from the expansion of the past four years, particularly by non-bank lenders such as trusts, exceeding that seen prior to other credit crises, Goldman Sachs Group Inc. estimated in August.
In summary: enjoy the relative calm we currently have thanks to Bernanke’s, Kuroda’s (and soon: Draghi’s) epic liquidity tsunami which is rising all leaking boats. The invoice amounting to trillions in bad and non-performing loans around the entire world, and not just in China, is in the mail.
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