16 November 2014

Who Will Pay for China's Bust?

14 NOV 13, 2014

One reason not to worry about a Chinese credit bubble is that most of the lenders are inside the country. If there's a wave of defaults, the logic goes, it won't affect the global financial system in the same way as the U.S. subprime crisis in 2008.

Judging from data on global bank exposures to China, this argument is rapidly becoming less convincing.

Over the past several years, loans outstanding and other exposure to China have roughly quadrupled to more than $800 billion, according to the Bank for International Settlements, an international organization of central banks (see chart). Add in about $170 billion in derivatives, credit commitments and guarantees, and the total comes to about $1 trillion.

It's hard to know how much of that money is used to finance the construction of buildings that won't be filled, excess steelmaking capacity or other misadventures. The BIS does know that the cash is mostly going to Chinese banks, followed by non-bank companies.
Australian banks have increased their exposure to China at the fastest pace over the past five years, though U.K. banks still account for the largest share of lending.

Knowing more about who stands to take the biggest losses would be crucial to managing the global repercussions of a Chinese credit bust. Unfortunately, six years after the financial crisis of 2008, the world's regulators are still very far from possessing an early-warning system that would allow them to identify -- in anything close to real time -- concentrations of risk. This weekend's Group of 20 summit in Brisbane, Australia, would be a good place to try to make some progress in building that system.

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