The shadow financing system in China will come under growing pressure in 2020 as the coronavirus pandemic takes a toll on private companies' ability to generate cash flow, said Fitch Ratings recently.
As a result of the expected prioritising of economic stability over deleveraging by the Chinese government this year, the clampdown on shadow banking will ease as the authorities look to stave off a potential wave of defaults associated with the pandemic and its fallout, the rating agency noted in a statement.
“We believe that efforts to reduce system leverage will instead focus on cracking down on irregular financing activities,” Fitch said.
Despite the easing official clampdown, Fitch expects that shadow-banking assets as a share of GDP will continue to fall in 2020, reaching 41% of GDP by end-2020 from an estimated 43% at end-2019.
“In part this will reflect risk aversion among the sector's lenders, who will be reluctant to increase their exposure at a time when economic conditions are particularly tough for borrowers,” the firm pointed out.
China growth to slow to 0.7%
Fitch forecasts that China's economic growth will slow to 0.7% this year because of the effects of the coronavirus and efforts to contain it.
In line with this, the rating agency predicted that corporate and asset-management products are likely to see a new wave of defaults, on top of the already fast deteriorating conditions in 2019.
As a result — and in contrast to the loosening in overall credit conditions — Fitch expects private-sector companies that rely heavily on shadow-banking activities for funding to face increased liquidity pressure in 2020.
“Cash flows will be hit with diminishing liquidity buffers, while funding availability from shadow-financing activities continues to contract,” Fitch estimated.
China faces more pressure to improve regulatory framework
In addition, Chinese authorities will face increased pressure to improve the regulatory framework to allow the financial system to cope better with the increase in credit events, Fitch said.
The urgency of such reforms has been highlighted by developments such as the de facto state takeover of the troubled HNA Group, Fitch observed.
“Regulators are also moving to implement new rules, released in 2018, that require asset managers to reduce irregular channel business, which can be used to disguise irregular financing activities, and to remove implicit guarantees for asset-management products,” the firm added.
Regulatory enhancements, if well implemented, could help to promote non-bank financial institutions' (NBFI) credit intermediation in a more orderly and transparent way and reduce moral hazard across the sector, while supporting NBFIs' role in providing financing options outside the banking system, Fitch said, adding that it views moral hazard as a major factor contributing to systemic risk, especially when asset impairment is on the rise.
There is still a possibility that the authorities could adopt more aggressive policies to stimulate credit, which could include a relaxation of efforts to tackle risks in the shadow-banking sector, Fitch noted.
The risk of the government adopting this approach would increase if the measures taken to date failed to revive the economy, the rating agency added.