KUALA LUMPUR: Moody's Investors Service estimates core Chinese shadow banking products totaled a large 21 trillion renminbi (RM10.22 trillion) at end-2012, or 39% of 2012 gross domestic product (GDP).
The ratings agency said on Monday China's shadow banking sector is large, referring to products which are relatively non-transparent, loosely regulated, and carry elevated credit risk.
"To gain a wider perspective on potential risks, we consider it prudent to also monitor a wider range of instruments that facilitate non-bank credit extension. This broader approach to shadow banking leads to an estimate of 29 trillion renminbi (55% of GDP) in products at end-2012," it said.
Moody's said Financial Stability Board (FSB) had defined shadow banking as "credit intermediation involving entities and activities outside the regular banking system".
This form of banking allows borrowers to obtain credit from alternative sources and circumvent banks' formal underwriting standards. Such a non-transparent, less-regulated form of credit extension can stoke asset bubbles and may pose risks to financial stability, as highlighted in recent years.
From 2007 to 2009, some large European and US banks sustained severe losses from exposures to subprime lenders, structured investment vehicles, sponsored money market funds, and other off-balance sheet conduits. Accordingly, we believe shadow banking poses continuing risks to banks in many systems2, including China, particularly when experiencing rapid growth.
Moody's estimated the growth rate of core and broad shadow banking activities in China to have exceeded a cumulative 75% and 67% over the past two years respectively.
"This high growth partly reflects tighter credit conditions in the formal banking sector, as well as banks' efforts to manage their loan-to-deposit and capital ratios (regulatory arbitrage).
"The regulators have implemented several measures to tighten controls over shadow banking, but its growth has so far persisted," it pointed out.
Moody's said China's banks have significant exposures to shadow banking activities, through their involvement in the structuring and marketing of wealth management products (WMPs), and their lending to companies and individuals that are active in shadow banking.
Banks' multiple, sometimes opaque, linkages to shadow banking make it difficult to pinpoint their exposures, but the key risks to banks include direct and indirect exposure and other forms of exposure.
Direct exposure. Banks face the risk of credit losses on loans made to companies active in shadow banking.
Indirect exposure. Banks also face indirect reputational, regulatory and legal risks. When WMPs they have sold turn sour, banks may choose to support sponsored funds to preserve client relationships. Even where the banks themselves may not structure, guarantee or sell WMPs, they may nonetheless be exposed to reputational risks just because of the mere association of their brands with the products in question.
Other exposures. Disintermediation and competition from shadow banking products may undermine deposit stickiness and thus system liquidity. Some Chinese banks have raised deposit yields towards the regulatory cap, possibly to compete with shadow banking products, mildly affecting their net interest margins (NIMs).
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