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China expected to ease core shadow banking clampdown amid economic downturn

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China expected to ease core shadow banking clampdown amid economic downturn

The Chinese government is expected to soften its hardline stance on core shadow banking activities as it seeks to defuse financial risks amid economic uncertainties, according to analysts.

According to data from the central People's Bank of China, core shadow banking finance transactions comprising trust loans, entrusted loans and undiscounted bankers' acceptance fell by 1.2 trillion yuan in the first eight months of 2019, compared to a drop of 2.92 trillion yuan for the entire 2018.

Further, the total outstanding amount of such activities dropped by 8.5% year over year to 22.82 trillion Chinese yuan as of Aug. 31, compared to a decline of 9.01% as of end-July and 10.85% as of end-2018.

Rowena Chang, associate director of non-bank financial institutions at Fitch, said that the magnitude of decline will be smaller in 2019 year over year as China faces heightened refinancing pressure for private companies, particularly amid trade tensions with the U.S.

"The authorities need to make sure the transition [of core shadow banking activities] is conducted in an orderly way [while not weighing on an already slowing economy]," she told S&P Global Market Intelligence. Fitch expects Chinese shadow banking activities to drop to around 50% of nominal GDP in 2019, compared to 55% in 2018 and a peak of around 70% in 2017.

Gao Ruidong, chief macroeconomist of Guotai Junan Securities, also said the contraction in core shadow banking activities will continue to moderate for the rest of 2019, even as the government attempts to harness the sector to improve credit growth.

"[With proper regulation,] core shadow banking can be an effective tool to support the real economy and a necessary complement to the financial system," he said.

Freeing up credit

In 2017 and 2018, government-led deleveraging initiatives led to liquidity stress among small and private companies that did not qualify for direct bank loans. China has tried to remedy this by cutting banks' reserve requirement ratios seven times since the start of 2018, and introducing a loan prime rate mechanism to free up liquidity.

Larry Hu, the chief China economist at the Macquarie Group, said in a Sept. 11 note that current stimulus is not enough to stabilize the economy, based on the latest credit data in August. Consequently, this should prompt Chinese authorities to escalate similar measures in the next one or two quarters, such as giving shadow financing relatively freer rein or encouraging banks to lend more.

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As of Sept. 26, US$1 was equivalent to 7.13 Chinese yuan.