China Has ‘High’ Chance of Small Bank Failure, Official Says

China Has ‘High’ Chance of Small Bank Failure, Official Says

One or two small Chinese banks may fail next year as they face pressure from their reliance on short-term borrowing, a Communist Party economic official said. Small banks get about 80 percent of their funding from interbank markets and deposits in savings vehicles known as wealth management products, Fang Xinghai, a bureau director at the Central Leading Group for Financial and Economic Affairs, said at a conference in Beijing today. They face risks from the mismatch with their long-term loans to borrowers such as local-government financing vehicles, he said.“Sometime next year, there may be one or two small lenders reporting a bank run or bankruptcies,” said Fang, a former head of Shanghai’s municipal Financial Services Office, whose current organization reports to the Central Committee of China’s ruling party. “That possibility is very high.”

His warning follows efforts by Premier Li Keqiang to stem a $6.6 trillion credit binge from the past five years and give the forces of supply and demand a bigger role in allocating resources in the world’s second-largest economy. The seven-day repurchase rate, a gauge of funding costs in the banking system, marked a high for the month at 5.4 percent on Nov. 18 after the central bank drained money from the financial sector.

The Communist Party this month signaled a bigger focus on fiscal concerns, setting the scene for a clampdown on the finances of indebted local authorities. The scale of regional debt woes is set to be shown in an audit that the Finance Ministry said was due last month.

The China Banking Regulatory Commission supervised 3,747 institutions at the end of last year, including more than 3,350 lenders at the municipal or rural level, according to the watchdog’s annual report.

‘Snowball’ Effect

In addition to the threat to lenders from the funding mismatch, failures of investment trust companies may lead them to sell assets, causing a “snowball” effect of falling prices that could spread the risks of the shadow financing system to the banks, Fang said.

Nonperforming loans at China’s lenders rose for a seventh straight quarter through the end of June, extending the longest streak in at least nine years, official data show. The increase was the smallest since the first quarter of last year and the ratio of bad loans to total credit was unchanged from three months earlier, at 0.96 percent.

China cleaned up its banks over the past decade, setting up asset-management companies in 1999 that initially took over 1.4 trillion yuan ($230 billion) of bad loans from the four biggest lenders. Decades of government-directed lending to unprofitable enterprises had pushed the financial system to the brink of bankruptcy, with bad-loan ratios reaching as high as 40 percent.

The government may publish rules for a deposit-insurance system before the end of this year, the Economic Information Daily reported today, citing an unidentified person.

To contact Bloomberg News staff for this story: Xin Zhou in Beijing at xzhou68@bloomberg.net