China’s financial system certainly isn’t out of the woods yet, but the country has made substantial progress in moving away from a potential banking crisis, according to the Bank for International Settlements.
The BIS, often called the central banks’ central bank, still puts China (along with Canada and Hong Kong) at the top of the list of countries most at risk of a banking crisis. But according to the latest quarterly review published on Sunday, a key warning indicator has improved to the lowest level since 2012.
The indicator–the credit-to-gross-domestic-product-gap–measures the difference between the credit-to-GDP ratio and its long-term trend. A big number can signal that credit growth is excessively rapid and that credit growth has the potential to crash the banking system. In March 2016, China’s gap hit a worrying peak of 28.9. In the most recent numbers, however, the gap is down to 16.7 in the third quarter of 2017.
The decline shows that the government’s efforts to deleverage the financial system are working. Deleveraging has been the official policy since 2015 and since then the country has worked, with varying degrees of success, to reduce the size of the shadow banking sector, to rein in speculation in the stock market, to curb the growth of wealth management produces, and to limit interbank borrowing. The most recent focus has been on reducing the growth in household debt. Here the government still has work to do, according to the BIS report, since  excessive levels of household borrowing were cited as a key risk factor for China (as well as for Canada and Hong Kong.)
On Wednesday China reports on growth in industrial production, retail sales, and fixed-asset investment. The numbers are expected to show some slowing of the economy from last year’s growth rate toward this year’s target of 6.5% growth.
Any slowing of economic growth always makes China’s leaders nervous and has led in the past to short-term stimulus designed to keep growth high. With current President Xi Jinping having just been granted the power to rule the country for as long as he wishes–instead of facing mandatory retirement after his current term–maybe some of that short-term pressure won’t lead to actual policy changes this time around.
Do I even need to say it? A stable Chinese financial system is a plus for the entire global economy.
