In recent months, two major banks in the Western world, Silicon Valley Bank (SVB) and Credit Suisse, have suffered significant collapses that have sent shockwaves through the global financial system. However, China’s banking system has remained insulated from these failures. This article discusses how China’s banking system has been designed to be focused on China’s domestic economy and adverse to cross-border risk, especially from Western economies.
One of the main reasons why China’s banking system has been able to weather the recent crises is due to its high level of state ownership and control of the banking sector. The Chinese government has a significant stake in all of the major banks, which allows it to more actively intervene in banking decisions and ensure that risks are minimized. This has enabled China’s banking system to be more conservative and focused on domestic lending, rather than engaging in risky cross-border transactions.
Another factor that has contributed to China’s banking system’s insulation from Western failures is its focus on the domestic economy. The Chinese banking system is primarily designed to support China’s domestic economy, with a particular emphasis on lending to state-owned enterprises (SOEs) and financing infrastructure projects. This approach has helped to insulate the banking system from the problems facing the United States and Europe.
However, while China’s banking system has been successful in avoiding the problems of the Western financial system, it has also generated its own issues. One of the most significant of these issues is inefficient capital allocation. Due to the state’s ownership and control of the banking sector, there is a lack of competition and market forces in the allocation of capital. As a result, capital is often allocated to politically favored SOEs and infrastructure projects, rather than to more productive and profitable ventures.
Another issue with China’s banking system is its inability to offer Chinese savers attractive investment products. With the focus on domestic lending, Chinese savers are often left with few investment options other than bank deposits, which offer relatively low returns. This has led to a significant amount of capital flight from China as savers seek higher returns abroad.
In conclusion, China’s banking system has been successful in avoiding the problems facing the Western financial system due to its focus on the domestic economy and its high level of state ownership and control. However, this insulation has come at a cost, with inefficient capital allocation and limited investment options for Chinese savers. As China continues to grow and develop, it will need to address these issues to ensure that its banking system can support its long-term economic growth.
Furthermore, while China’s banking system has been insulated from external risks, it has faced its own challenges. One of the main issues is the high level of bad debt in the system. According to the Bank for International Settlements, China’s non-performing loan ratio was around 6.4% in the third quarter of 2021. This is higher than the average of other major economies, including the United States and Europe. The high level of bad debt is due to the inefficient allocation of capital, as well as the government’s tendency to support failing SOEs.
Another challenge facing China’s banking system is the lack of innovation and competition. The state-owned banks dominate the sector, leaving little room for private or foreign banks to enter the market. This has resulted in a lack of innovation and competition, which has limited the availability of new financial products and services.
To address these challenges, China has been gradually opening up its banking sector to private and foreign players. In recent years, the government has taken steps to reduce its control over the sector and encourage competition. For example, it has allowed foreign banks to increase their stakes in local banks and has introduced new rules that make it easier for foreign banks to operate in China. This has led to an increase in competition and innovation in the sector.
In conclusion, while China’s banking system has been insulated from the recent collapse of Silicon Valley Bank and Credit Suisse, it has faced its own challenges, including bad debt and a lack of innovation and competition. As China continues to open up its banking sector, it will be able to address these challenges and create a more efficient and competitive financial system. However, the government will need to strike a balance between promoting competition and innovation while also maintaining stability and control over the sector.
